These stocks may see exaggerated moves as the end of the quarter nears
This week, I'm looking for quantified evidence of a practice known as window dressing. Mutual funds and other large institutions disclose their holdings at the end of each quarter. Window dressing is when they buy high-flying stocks before the reporting period. Then, when someone views their holdings, they see these great stocks and conclude the managers had the foresight to be invested in them, not realizing their purchase was so recent. Similarly, the fund may sell off their duds to hide the fact they invested in such poor-performing stocks. Below, I look for evidence of window dressing, and then I list some stocks that might benefit or suffer because of it.
The Best Way to Use Window Dressing Stats
Going back five years, I looked at how S&P 500 Index (SPX) stocks performed in the last week of each quarter. I separated them into three groups of the best 50 stocks, worst 50 stocks, and others depending on their performance over the prior six months until the last week of the quarter. If the best performers over the past six months also perform the best in the last week, then that would be evidence of window dressing.
The first table below shows the average return in the last week of the quarter for S&P 500 stocks in the three brackets I mentioned above. The second table shows the percentage of stocks that outperformed the SPX. The only quarter in which I see much evidence for window dressing is the third quarter. Perhaps buying and selling in other quarters are driven by other factors. For example, the fourth-quarter activity could be driven by end-of-year tax considerations, and the same goes for the end of the first quarter -- which happens just before taxes are due in mid-April.
The chart below shows the average return of the S&P 500 stocks in each bracket in each of the last five years. Our window-dressing theory looks reasonable in three of the five years. Last year and in 2015, however, the stocks that performed the best in the preceding six months did the worst in the final week of the quarter. In other words, if there's any edge here, it's minor. I would use the information as a confirmation on a short-term trade, or maybe as a tool for timing an entry on a long-term trade.
The Best and Worst SPX Stocks in the Past 6 Months
Based on the analysis above, below are a couple lists of stocks to watch for the remainder of the quarter. The first table shows S&P 500 stocks that have done the best over the past six months. The window-dressing theory says these stocks should do well here in the final stretch of the quarter. The second table of stocks are the worst performers over the past six months. These stocks could face selling pressure over the next week as portfolio managers unload them before the end of the quarter.
