This week in our series Following the Auction, we’re looking at the ‘January Effect’ concept. The month of January in the stock market has been noted to have strong significance in predicting the trend of the stock market for the rest of the calendar year. If the month of January is a positive month closing higher, then there is a greater than 50% chance that the year will end higher.
Historically, the reason for the January Effect was the result of tax-loss selling which caused investors to sell their losing positions at the end of December. The January Effect was predicated on the idea that those stocks, which had been sold to realize the tax losses, would then be available at a discount. Bargain hunters step in and buy up those dogs… creating buy pressure in the market. The stocks affected tended to be small cap as opposed to mid or large cap. It’s noted in Investopedia that the January Effect trend has been less pronounced in recent years because taxes have changed and the markets have adjusted for it.
With the S&P 500 composed of large cap, does the January Effect spill over into the larger market indexes as well? I did a sample of recent data starting in 1998 through this year looking for evidence of the January Effect. The chart below shows whether the January Effect for the month was either true or false. The data points on the chart below are as follows –
- Date, year open, year close, January high, January low, January close
- Number of points from the open to January high
- Number of points from the open to January low
- Range, high to low for the month of January, (positive or negative month indicated by arrow)
- January Effect True/False Please click on chart to enlarge.
The results above reveal out of the last 17 years, the January Effect has been true 10 out of 17 times using the data for the whole month of January. Additional research, going back over 50 years revealed, if the month was up there was a greater chance of the year being up (86%), hence the January Effect = True, than when the month was down and there was an even chance + (54%), of the year being up or down, hence the January Effect = False.
The January Effect is sometimes limited to the first week of trading. The chart below shows the same information but using the first week of trading instead of the whole month. Please note depending on when New Years Day happened relative to the trading week, I bypassed those weeks containing less than 3 trading days and used the following first full week, as shown by the dates. Please click on chart to enlarge.
Looking at just the first week of January for data instead of the whole month, we find a stronger correlation, 12 out of 17 times the January Effect = True. Also of note are the cases when the January Effect = False as 4 out of the 5 ‘False’ results did happen on a down week, confirming the statistic above of 54% accuracy vs 86% accuracy on up weeks.
* 2002 – There were only 3 trading days in this week, if the data from the following week is including then the statement = TRUE, increasing the accuracy to 13 out of 17. * 2012 This is False by 2 ticks, refer to the weeks high vs low.
Conclusion, there are many factors that affect the movement of the stock market but if one is investing in stocks for the long run, it might be worth noting how that first week in January plays out! Remembering everything is odds, this year, 2014, the month of January was down but the first full trading week in January was up. The year has fulfilled the statistic for a positive first week resulting in a positive year!
Check in Monday morning for the updates… it’s a short week with the holiday. Don’t forget, especially this holiday week, trade smarter… not more often!
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