AN EMPIRICAL INVESTIGATION OF THE RELATIONSHIP BETWEEN TAX-LOSS SELLING AND THE JANUARY EFFECT

Prior empirical studies have reached different conclusions regarding the influence of tax-loss selling on the January effect. Some studies present evidence supporting tax-loss selling by investors as a cause of the January effect while others demonstrate that the January effect remains strong even in the absence of a tax-loss selling motivation. Anomalies such as the January effect have been cited as evidence against the efficient market hypothesis.; The purpose of this study is to add to the body of knowledge regarding efficient markets by testing a popular explanation of the January effect, the tax-loss-selling hypothesis. This study tests the tax-loss-selling hypothesis by examining the price growth rate in commodity futures contracts before and after the enactment of major tax legislation affecting these contracts.; The tax-loss-selling hypothesis predicts the January effect to be present in commodity futures contracts with high tax-loss-selling potential prior to the Economic Recovery Tax Act of 1981 (ERTA), but not in commodity futures contracts with low tax-loss-selling potential. However, it predicts that after the enactment of ERTA the January effect should disappear or be greatly reduced in all commodity futures contracts. Using a pretest-posttest design with a comparison group, this study finds the pattern of price growth rates predicted by the tax-loss-selling hypothesis. Both OLS and WLS regression analysis is used to document the pattern.