Some investors use technical analysis to decide the best time to invest, while others invest based on the time of a year when markets exhibit some peculiar characteristics – during these periods, markets behave in a way which may be a good time to enter or exit a market.
The calendar effect has been used to refer to a particular time when stock markets behave in a peculiar fashion. Some well-known examples include the:
- January Effect
- October Effect
- Santa Claus Effect
- Unlucky Seven
In this article, we are going to take a closer look at the January Effect and October Effect.
January Effect
The January Effect (aka Year End Effect) refers to equity markets’ tendency to rise during the period – starting on the last trading day of December and ending on the 5th trading day of January. Studies have singled out January as the month when the average returns may be higher than the average monthly return for the entire year.
One explanation is because corporations and individuals often rush to close their tax books at the end of December. Unlike Singapore, investors in the USA need to pay taxes on their net realized capital gains and losses in their investments. After reporting the tax losses, the overall taxes paid on capital gains tend to be reduced. Other reasons for selling investments in December is to raise cash for the holidays.
The December sell-out may temporarily depress the equity markets, although there may be no fundamental change in the markets’ health. Due to this assumption, bargain hunters often start buying at the beginning of the following year, resulting in a buying frenzy during the early part of January. If you believe in the January Effect, then January is a good month to invest.
October Effect
Studies suggests that stock prices tend to fall in October because some investors get fearful. This is because in the past, some major market crashes had incurred in October. Examples include the Wall Street Crash of October 1929 which triggered the Great Depression. Another example is the Great Crash of 19 October 1987 (aka Black Monday) when the Dow Jones Industrial Average (DJIA) Index fell 22.6% within a single day.
How True Are These Hypotheses?
Do markets always perform well in January, and decline in October? Unfortunately, the answer is no.
This is because the January and October Effects might be overshadowed by other global events like the US China Trade War, Brexit, terrorist attacks, natural disasters which no one can predict.
Secondly these hypotheses are derived from historical data. Historical data might not be as relevant today, because the financial markets have undergone various developments in recent years. One example is the implementation of trading mechanisms like circuit breakers by some stock exchanges to prevent panic selling.
Conclusion
There is a saying that “the only certainty that stock markets face is uncertainty”. There is an element of truth because markets go through random trends of upturns and downturns. For example, if earnings growth and economic data are better or worst than what analysts predicted, it may drive the markets up, down, or sideways.
Instead of waiting for a certain month or quarter to invest, we think it is better to look at the fundamentals of a stock market before making the all-important decision to invest or not. Consult with an experienced financial planner today if you need help with your investments.
