By Nigam Arora & Dr. Natasha Arora
Signal(s) to enter, add, reduce, exit, hold or change.
The January Effect
The January Effect offers an opportunity to potentially make about 30% in three months. In some years, over 50% return has been generated. Of course, the annualized return can be 120 – 200%. It is a phenomenon that makes prices of certain stocks rise more in January than the market averages.
Over the last 30 years, money has been made from the January Effect about 80% of the time, broken even about 10% of the time, and lost money about 10% of the time.
Why Dips Occur In Certain Stocks Providing Opportunities
The practical way to take advantage of the January Effect is to buy dips in certain stocks that may occur for the following two reasons:
1. Tax-loss selling. One strategy that is commonly employed by investors is to offset gains by taking losses on certain stocks. Such selling for tax purposes artificially depresses the price of certain stocks.
2. Window dressing. Portfolio managers in their year-end reports do not want to show investors that they were holding stocks that did not do well. Therefore, they sell such stocks artificially depressing them further.
Two Reasons Behind The January Effect
The January Effect occurs for two reasons.
1. Investors buy stocks in January that were artificially depressed because of tax-loss selling in the prior year.
2. In January, Wall Street professionals get big bonuses. Those with big bonuses prefer bargain stocks and drive up the prices of the stocks that were losers the previous year.
The conventional wisdom is that this effect applies only to small stocks. Our experience is that the effect is not limited to small stocks but applies to depressed stocks in general.
How To Reduce Risk
At The Arora Report, we advocate a basket strategy to reduce risk. The Arora Report publishes a basket of stocks to profit from the January Effect along with buy zones and position sizes. Most of the buy zones are below the market. The plan is to catch down spikes. Typically, only 15% – 25% of the stocks on the list get fills.
All stocks with fills will not be winners, there will be losers. Even some winners will have puny returns. Typically, two or three stocks end up with monster returns. The average return typically ends up about 30% over three months.
Also, consider devoting only a very small part of your portfolio to this strategy. Be fully aware that in some years this strategy does not work and ends in losses. The total amount devoted to this strategy should not exceed your personal risk tolerance. Also, keep mental stops of about 15%.
If following this strategy, consider giving utmost priority to risk control based on your personal preference. Investors should also consider taking profits and cutting losses based on personal preferences and not wait for signals. Investors are responsible for risk control, no additional signals are given for stop losses beyond the mental 15% recommendation.
Be careful to not get fills in too many stocks based on your portfolio size and personal risk preference.
When To Buy
Thirty years ago, one could simply buy depressed stocks in the last week of December. Now it has become more complicated.
This year the validity of the buy zones may need to be extended into January. A separate signal will be issued if needed at that time.
If no new signal is issued, buy zones expire on December 31, 2023.
Please stay tuned to new posts as the above parameters may need to be changed due to the special circumstances of the market.
When To Take Gains
Normally gains are taken from late January to early April.
Managing The Trades
A practical way is to put in good-til-canceled orders (GTC). Consider putting small orders in tranches spread out in the buy zones. All orders will not fill. If there are not many fills, consider raising the order prices. Every year there have been a handful of stocks on the list that came within $0.25 of the top band of the buy zone and then went on to double. For this reason, aggressive investors may want to take liberty with the top end of the buy zones. If buying above the top band of the buy zone, consider reducing the quantity to reduce risk.
If you already hold some of the stocks in the basket, consider excluding those from your January Effect list.
If the market goes up between now and the end of the year, there may not be many fills. It never pays to chase the price. To be successful, consider buying only on the down spikes.
Special Considerations For 2023
The strategy works in an up market, sideways market, and often even in a mild down market. The strategy does not work if the market experiences a significant down turn. Be sure to stay in tune with Morning and Afternoon Capsules and use the information to make adjustments based on your personal preference. Irrespective of the market, if the strategy is not working, consider making adjustments based on your own personal preference.
For conservative investors, it is better to not chase the price and consider buying only on the down spikes. There is no guarantee that this strategy will produce profits this time. The strategy may even produce losses.
The list is regularly reviewed and the buy zones may be adjusted as time goes on based on market conditions. Profit-taking signals may be provided in real-time.
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