Our “Free Lunch” (page 112 STA14) strategy is a short-term trade that takes advantage of several year end phenomena. Research has shown that NYSE stocks making new 52-week week lows in mid-December, primarily due to year end tax-loss selling, tend to outperform the NYSE through mid-February. These stocks are selected ahead of the Santa Claus Rally (page 114 STA14) and approximately near the start of the January Effect (page 110 STA14).
Many of the stocks selected for the “Free Lunch” trade are down for good reason. Declining revenue and shrinking profits are most common amongst these names while others may have run into legal or accounting trouble. Once a name pops, profits should be taken and conversely if a name continues lower it should be cut loose quickly.
Since the close on December 20, our “Free Lunch” basket of bargain stocks has gained an average of 24% through the close on January 17 compared to a NYSE gain of 1.4%. Our Free Lunch Basket is up another 1-2% today. Roughly 16% of these gains have come in the past seven or eight trading sessions. Since the Santa Claus Rally has come and gone and the January Effect is largely over now, the time has come to close out the “Free Lunch” trade.
As an alternative to simple dumping names that may still be exhibiting strength, tight trailing stop losses could be used. Of the 18 stocks, just three were down last Friday; Cash Store Financial Services (CSFS), Saratoga Resources (SARA) and Tower Group (TWGP). CSFS may close at breakeven today while TWGP has a $3.00 per share merger agreement on the table that may or may not get done later this year.
By: Christopher Mistal