How to Play the January Effect with CEFs

As this annus horribilis draws to a close, we are left ducking shoe after shoe that drops or is flung at us. But this year’s abysmal performance has a silver lining. It offers a sumptuous buffet for those who finish off the year with a play on the January effect.

For the novice, this is the trading pattern at the end of the year which the efficient market hypothesis says shouldn’t even exist. Usually it is small or micro capitalization stocks which have declined and are then pushed down further by tax-loss selling. The opportunity is to play these for a short term bounce into the new year.

Personally, I focus on closed end funds ((CEFs)) and within them usually fixed income or municipal bond

CEFs. I go into great detail explaining the background, rationale and several actual trades: My Year End Strategy

I won’t repeat myself because you can get all the info you need from the above link. This is a very high return, high probability trade but it depends on how poorly the target securities have fared.

This year, I feel like a kid in a candy store. While this abundance is great, it does make it a bit more challenging to filter all the potential plays and find the best ones.

You can sift through the CEFs through a publication like Barron’s which not only prints their prices but also their year to date performance and premium/discount to NAV. Online you can use the CEF Association’s database or check out ETF Connect and use their Fund Sorter or do an advanced search to only look at certain sub-sections of securities like municipal bond fund CEFs.

Here’s an example of the sort of securities to choose from:

Here’s the worst performing closed end fund, down a tantalizing 92% - Scudder Real Estate Fund II (SRO):

Here’s one that is in more than a few Morgan Stanley client accounts (placed at $20 no doubt) - Morgan Stanley Emerging Market Fund (FFD):

and another which also came out this year and is sure to have a lot of unhappy longs: