January effect
Encyclopedia
The January effect is a calendar-related anomaly in the financial market
where financial security prices increase in the month of January. This creates an opportunity for investors to buy stock for lower prices before January and sell them after their value increases.
Therefore, the main characteristics of the January Effect are an increase in buying securities before the end of the year for a lower price, and selling them in January to generate profit from the price differences.
This type of pattern in price behavior on the financial market supports the fact that financial markets are not fully efficient.
The January Effect was first observed in, or before, 1942 by investment banker Sidney B. Wachtel. It is the observed phenomenon that since 1925, small stocks
have outperformed the broader market in the month of January, with most of the disparity occurring before the middle of the month.
The most common theory explaining this phenomenon is that individual investors, who are income tax
-sensitive and who disproportionately hold small stocks
, sell stocks
for tax reasons at year end (such as to claim a capital loss
) and reinvest after the first of the year. Another cause is the payment of year end bonuses in January. Some of this bonus money is used to purchase stocks, driving up prices. The January effect does not always materialize; for example, small stocks underperformed large stocks in January 1982, 1987, 1989 and 1990.
Financial market
In economics, a financial market is a mechanism that allows people and entities to buy and sell financial securities , commodities , and other fungible items of value at low transaction costs and at prices that reflect supply and demand.Both general markets and...
where financial security prices increase in the month of January. This creates an opportunity for investors to buy stock for lower prices before January and sell them after their value increases.
Therefore, the main characteristics of the January Effect are an increase in buying securities before the end of the year for a lower price, and selling them in January to generate profit from the price differences.
This type of pattern in price behavior on the financial market supports the fact that financial markets are not fully efficient.
The January Effect was first observed in, or before, 1942 by investment banker Sidney B. Wachtel. It is the observed phenomenon that since 1925, small stocks
Stocks
Stocks are devices used in the medieval and colonial American times as a form of physical punishment involving public humiliation. The stocks partially immobilized its victims and they were often exposed in a public place such as the site of a market to the scorn of those who passed by...
have outperformed the broader market in the month of January, with most of the disparity occurring before the middle of the month.
The most common theory explaining this phenomenon is that individual investors, who are income tax
Income tax
An income tax is a tax levied on the income of individuals or businesses . Various income tax systems exist, with varying degrees of tax incidence. Income taxation can be progressive, proportional, or regressive. When the tax is levied on the income of companies, it is often called a corporate...
-sensitive and who disproportionately hold small stocks
Stocks
Stocks are devices used in the medieval and colonial American times as a form of physical punishment involving public humiliation. The stocks partially immobilized its victims and they were often exposed in a public place such as the site of a market to the scorn of those who passed by...
, sell stocks
Stocks
Stocks are devices used in the medieval and colonial American times as a form of physical punishment involving public humiliation. The stocks partially immobilized its victims and they were often exposed in a public place such as the site of a market to the scorn of those who passed by...
for tax reasons at year end (such as to claim a capital loss
Capital loss
Capital loss is the difference between a lower selling price and a higher purchase price, resulting in a financial loss for the seller. The IRS states that "If your capital losses exceed your capital gains, the excess can be deducted on your tax return"....
) and reinvest after the first of the year. Another cause is the payment of year end bonuses in January. Some of this bonus money is used to purchase stocks, driving up prices. The January effect does not always materialize; for example, small stocks underperformed large stocks in January 1982, 1987, 1989 and 1990.