Could the January Effect Benefit Small-Cap Stocks?

Could the January Effect Benefit Small-Cap Stocks? The real title of this article probably should have been: “How the January Effect Could Benefit Small-Cap Stocks – And What You Should Do About It.” At Zacks Investment Management, we have long advocated for the inclusion of small-cap stocks as part of a broadly diversified equity strategy. Small-caps have tended to outperform mid- and large-cap stocks over very long stretches of time, and if chosen wisely they have potential to add solid alpha to an investor’s portfolio. The January Effect is less an investment principle than it is a reminder that small-caps deserve a legitimate seat at the table. Like “Sell in May and Go Away,” the “January Effect” is one of those clichéd calendar trends that often works enough to grab investor attention but is far from a sure thing (nothing with investing is). Below we’ll explain what the January Effect is, how it arguably benefits small-cap stocks, and what you should do about it. More... ------------------------------------------------------------------ [Just Released: Zacks' Pre-Trump Administration Predictions] It's free but also time-sensitive, so you are encouraged to download Zacks' December Economic Outlook Report right now. • INVESTOR ALERT: Where will the S&P 500 be at year's end? What's predicted for 2017-2019? • Will Trump bring higher near-term growth? • Where are 10-year yields headed by New Year? • Where does Zacks project GDP growth and inflation? • What might be the result of a Trump tax cut? Get answers to these and other questions that could help shape decisions for your investment portfolio. [Free Download Today: Zacks' New Economic Outlook Report >>] ------------------------------------------------------------------ Explaining the January Effect The so-termed January Effect was first noticed in the 1940’s by an investment banker named Sidney Wachtel. At that time, it was just a very basic observation that stocks tended to bounce in January, particularly small caps. The hypothesized rationale behind the January rally in stocks was based in the following logic: - Tax-Loss selling at the end of the calendar year causes many stocks to fall to lower valuations, therefore making them attractive buys at the beginning of the New Year. - Big Wall Street bonuses were typically falling to the beginning of the year, and capital was being deployed into bargain stocks that were losers the previous year. - Portfolio managers would sell losers at the end of each year because they wanted to show investors they were actively getting rid of poor performers, which drove those stock prices even lower. The theory goes that the annual combination of lower prices and fresh new capital were driving stock prices higher, or at least creating conditions conducive to rising prices. Small-caps historically emerged as the category that benefited the most from this effect. How Investors Should Position for the January Effect Like other ‘calendar’ stock market effects, the January Effect is far from a reliable indicator. Over time it will probably work just as many times as it doesn’t. In fact, 2016 was an example of its shortcomings – the market underwent a fairly steep correction that spanned just about the entire month, and hit all categories of stocks. Betting on the January Effect this year would have been as disappointing as it gets. Betting on small-cap, however, would not have been disappointing if you stuck with it for the entire year. Small-cap stocks have outperformed the S&P 500 by a pretty handy margin so far, so investors with small-cap exposure in their portfolios stood to gain a nice bit of alpha over the broad large-cap indices. Bottom Line for Investors Looking ahead, the environment could be shifting back in favor of small- and mid-cap stocks, as the proposed lower corporate tax rates and infrastructure spending plans could help profitability in domestic and cyclical categories, where small-caps tend to thrive. Our advice to investors who desire growth and equity exposure in their portfolios is to have exposure to the small-cap category as part of a broadly diversified portfolio. Additionally, we advise investors to keep their risk tolerance in mind when evaluating exposure to the small-cap category. At Zacks Investment Management, we have solutions to help investors gain that exposure at the hands of professional, experienced managers. To learn more about our small-cap products and our track record in the space, please reach out to us directly at 1-800-245-2934. In the meantime, as a valued subscriber to this e-letter, you are invited to [download our "hot-off-the-presses" December Economic Outlook free of charge.] This is the last pre-Trump baseline forecast as post-election market moves and expected policy changes are now in the mix. As the U.S. gears up for the Trump presidency, where do we see the S&P 500 heading by year's end and beyond? Do we predict greater returns from 10-year notes? Going forward, how soon and how often will the Fed raise rates? What might be the effect of a Trump tax cut? Where is GDP growth headed? These important projections and many more can help you make sound decisions for your investment portfolio. [FREE Download – Zacks' Just-Released Economic Outlook Report for December >>] This material is being provided for informational purposes only and nothing herein constitutes investment, legal, accounting or tax advice, or a recommendation to buy, sell or hold a security. 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