January Effect and Stock Valuation

Want to learn which stock valuation models perform better than others? Want to know how to use the stock valuation measures to evaluate relative pricing of stocks? Professors Zhiwu Chen (Yale University) and Jan Jindra (Menlo College) are about to publish research that will provide investors with insights related to the two questions above.

In their research, the authors rely on frequently-used valuation measures, such as the Market-to-Book ratio, as well as recently developed stock valuation models in order to study the valuation picture behind the well-documented seasonal stock price variations around the turn of the year (the so-called “January” effect).

The authors find that the average valuation level is the highest in mid summer and the lowest in mid-December—a pattern that anticipates the January effect. Furthermore, they document that the dispersion of the valuation measures increases towards the year-end, possibly capturing two simultaneous but different trends: tax-loss selling and window dressing. Their research also documents that small-cap stocks exhibit the sharpest decline in valuation from June to December and the highest rise from December to January. For most months, small-cap stocks have the lowest valuation among all size groups and show the widest cross-stock valuation dispersion, meaning they are also the hardest to value. Overall, large stocks enjoy the highest valuation uniformity and are the least subject to valuation seasonality. Finally, recently developed dynamic stock valuation model anticipates the return seasonality more closely than alternative measures.

For in-depth information about this study, please click on the link below. The article, “A Valuation Study of Stock Market Seasonality and Firm Size” by Zhiwu Chen, co-authored with Jan Jindra, is a pre-publication version of a forthcoming article that will be published in the Spring issue of The Journal of Portfolio Management. The article will be available in late April, online at http://www.iijournals.com and in print.