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End of Year Momentum, by Victor Niederhoffer

As the end of year approaches, it is conventional wisdom that the winning stocks are kept but the losers are sold for tax and window-dressing purposes. If so, the companies that are doing the best near the end of the year might be expected to perform inordinately well toward the end of the year, and the companies that are doing the worst might be expected to perform poorly. Thus, a cumulative November barometer for individual stocks might be posited. Or in baseball terms, the teams that are winning as of the end of November, perform better than the teams that are losing as of the end of November.

But it must be tested. I performed a hand-study of the phenomenon for the last five years:

Performance of Companies Last Month of the Year
Year      S&P  10 Best Companies  10 Worst Companies 
                    as of Nov 30        as of Nov 30
2000       -1                +22                 -14                        
2001       +1                 +6                  -2                      
2002       -5                 -2                  -5                     
2003       +5                 -3                 +11       
2004       +3                  0                 +12                      
Average     0                 +5                   0

There is some evidence that in recent years the worst have done better and in the old days the best did better. Because this is a study on the current S&P 500 universe, the superior performance of the worst companies during recent years, with double-digit gains in 2004 in AMCC, FRX, WPI, NOVL, and CIEN, and in 2003 for Q, KG and LMT, might be due to survivor bias, in the sense that if they were truly bad in both periods of the year, they might have vanished into oblivion or into the Midcap index.

However, the hand-study does underline how regimes change. During the beginning years, it was clear shooting to buy the momentum winners and hold on. During the recent years the reverse. All told, a suggestive and cautionary study, grist for the Minister of Non-Predictive Studies and a worthy caution to academics and practitioners who lump years and companies of all price classes together willy-nilly, assuming independence of the observations in a year, and not taking into account survivor bias.

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