The January effect is the idea that stocks generally go up in the first month of the new calendar–and portfolio manager performance measurement–year.
The generally accepted explanation for this is that taxable investors sell both their clunkers and some of their winners in December to realize taxable losses and offsetting losses. Mutual fund investors do this sort of housekeeping in October, but their separate account colleagues and other large taxable accounts also join the December portfolio tidying up.
With the negative effect on prices of all this year-end selling, the argument goes, there’s a natural bounceback of the market in January.
That’s the story anyway. But the reality is that most of the unusual gains that have historically come in January can be explained by the bounceback of speculative small-caps that are depressed in December by a combination of retail selling and market makers shifting prices dramatically lower so they won’t have to take on too much inventory.
The interesting thing about this January so far is that stocks are going down, not up. To me, this looks like individual taxable investors taking profits on stocks that have had strong Decembers. So rather than realizing losses for 2023 taxes they’re taking gains they won’t have to pay taxes on for another year.
If I’m correct, this would imply some combination of increasing retail involvement in the stock market and the waning influence of mutual funds as lower-cost ETFs (which don’t typically need to do traditional fund tax planning) take market share away from them.
You make a good point. I am tempted to take a long-term gain in my hottest position. I wonder if this pattern of realizing gains in January existed in the late 1960s when individual investors dominated a bull market?
I remember talking with Sam Eisenstadt in 1980? about this. His analysis, which I’ve “borrowed.” was that the January effect was mostly about very low absolute price stocks, favored by retail speculators, bouncing back in January after being heavily sold down for tax reasons at the end of the previous year. At least part of this dramatic movement was the behavior of market makers, although he didn’t quantify this–because I wasn’t sharp enough to ask. My overall impression was he regarded this a s bump in the road in a generally uninteresting part of the market–white unlike what I see happening over the past couple of days.
Sam was certainly talking about behavior in the Seventies. I don’t know about the Sixties.
If the current selling is really about taxes, one would think it would be over in, say, a week or so.
The names I’m noticing as being sold off now all seem to have had good runs in the last two months of 2023.
A belated Happy New Year.