What is January Effect? Trading Importance of January Effect

Friday, January 23, 2009

What is January Effect?

January effect is the tendency of stock markets to rise in the month of January. The tendency is more evident in first week of January. January effect is more evident in small-cap and mid-cap stocks and different stocks and markets are differently affected by the effect.

The main reason for January effect is related to Tax paying. Investors and traders sell-off their holdings to claim a capital loss or to get lower taxes before the end of the tax calendar (in December) causing the prices to fall. In first week of January these investors/traders reinvest their money and buys-back stocks, and the prices rise. For S&P January effect took place 32 times out of total 39 years from 1979. As the effect is widely expected it is difficult to profit from this effect.

January effect is getting weaker by years. There are many reasons for it.

Now more traders are trading from tax-differed retirement accounts and therefore no they don’t need to sell at the end of the year for tax benefits.
As the effect is widely anticipated markets/investors adjusted for it.
Markets have become more efficient and now worldwide markets almost move together.
Local and international news and developments greatly affect market performances.
Tax reforms also play their part.