What Is the Weekend Effect?
The weekend effect is a phenomenon in financial markets in which stock returns on Mondays are often significantly lower than those of the immediately preceding Friday.
(The weekend effect is sometimes known as the Monday effect, although that theory states that returns on thestock marketon Mondays will follow the prevailing trend from the previous Friday. If the market was up on Friday, it should continue through the weekend and, come Monday, resume its rise, and vice versa. )
Here's how the weekend effect works.
Key Takeaways
- The weekend effect is a phenomenon in financial markets in which stock returns on Mondays are often significantly lower than those of the immediately preceding Friday.
- Although the cause of the weekend effect is debated, the trading behavior of individual investors appears to be at least one factor contributing to this pattern.
- Some theories that attempt to explain the weekend effect point tothe tendency ofcompanies to release bad news on a Friday after the markets close, which thendepresses stock prices on Monday.
Understanding the Weekend Effect
One explanation for the weekend effect is the tendency of humans to act irrationally; the trading behavior of individual investors appears to be at least one factor contributing to this pattern. Faced with uncertainty, humans often make decisions that do not reflect their best judgment. At times, the capital markets reflect the irrationality of their participants, especially when considering the high volatility of stock prices and the markets; the decisions of investors may be impacted by external factors (and sometimes unconsciously). In addition, investors are more active sellers of stock on Mondays, especially following bad news in the market.
In 1973, Frank Cross first reported the anomaly of negative Monday returns in an article called “The Behavior of Stock Prices on Fridays and Mondays,”which was published in the Financial Analysts Journal. In the article, he shows that the average return on Fridays exceeded the average return on Mondays, and there is a difference in the patterns of price changes between those days. Stock prices fall on Mondays, following a rise on the previous trading day (usually Friday). This timing translates to a recurrent low or negative average return from Friday to Monday in the stock market.
Some theories that attempt to explain the weekend effect point tothe tendency ofcompanies to release bad news on a Friday after the markets close, which thendepresses stock prices on Monday. Others state that the weekend effect might be linked to short selling, which would affect stocks with high short interest positions. Alternatively, the effect could simply be a result of traders' fading optimism between Friday and Monday.
The weekend effect has been a regular feature of stock trading patterns for many years. According to a study by the Federal Reserve, prior to 1987, there was a statistically significant negative return over the weekends. However, the study did mention that this negative return had disappeared in the period between 1987 and 1998. Since 1998, volatility over the weekends has increased again,and the cause of the phenomenon of the weekend effect remains a much-debated topic.
Special Considerations
The reverse weekend effect
Opposing research on the "reverseweekend effect" hasbeen conducted by a number of analysts, who show that Monday returns are actually higher than returns on other days. Some research shows the existence of multiple weekend effects, depending on firm size, in which small companies have smaller returns on Mondays andlarge companies have higher returns on Mondays. The reverse weekend effect has also been postulated tooccur only in stock markets in the U.S.
