What Is the Monday Effect?
The term Monday effect refers to a financial theory that suggests that stock market returns will follow the prevailing trends from the previous Friday when it opens the following Monday. According to the theory, if the market was up on Friday, it should continue through the weekend and resume its rise on Monday while the reverse is likely to occur if the market was down on Friday. The Monday effect is important for day traders and other market watchers who rely on it to predict where the market will move at the beginning of the trading week.
Key Takeaways
- The Monday effect is a financial theory used by some market watchers that states that Monday stock market returns follow those of the previous Friday.
- According to the theory, if the market moves up and closes higher on a Friday, it will open higher during the first few hours of trading on the following Monday and vice versa if it closes lower.
- It was first reported by Frank Cross in a 1973 article published in the Financial Analysts Journal.
- The Monday effect has been attributed to the impact of short selling, the tendency of companies to release more negative news on a Friday night, and the decline in market optimism a number of traders experience over the weekend.
- The Mondayeffect remains a much-debated topic.
Understanding the Monday Effect
There is no accurate way to predict where the market will head. That's because market movement depends on a number of different factors, including economic conditions, breaking news, supply and demand, government policies, and speculation among others. Market and stock watchers must come up with a strategy that can help them guess which way things will swing in order to make their moves. One of these techniques is the Monday effect.
As noted above, many day traders and market watchers use the Monday effect to help them figure out which way the market will move. According to this theory, the equity market is poised to replicate the returns from the close of Friday's trading day on the following Monday's market open. So if it closes up on Friday, it should open the same way the following Monday. If it drops before the close on Friday, the market will open lower on Monday.
Some studies show a similar correlation, but no one theory can accurately explain the existence of the Monday effect.The rationales or reasonsbehind the existence of theMonday effectare not well understood. But when reviewed intermsof weekly trading on any given Monday, equitymarkets experience opening performance that mirrors Friday's closing performance.
The Monday effect is sometimes known as the weekend effect, which describes the phenomenon that Monday returns are often significantly lower than the previous Friday's returns.
History of the Monday Effect
Frank Cross first reported the anomaly of the Monday effectin a 1973article entitled “The Behavior of Stock Prices on Fridays and Mondays,”which was published in the Financial Analysts Journal. According to Cross, the average return on Fridays exceeded the average return on Mondays and there is a difference in the patterns of pricing changes throughout the day. It usually results in arecurrent low or negative average return from Friday to Monday in the stock market.
Some theories say the Monday effect has a lot to do with thetendency ofcompanies to release bad news on a Friday, aftermarkets close, which thendepresses stock prices on the following Monday. Others think the Monday effectmight be attributedtoshort selling, which would affect stocks with highshort interest positions. Alternatively, the effect could simply be a result of traders' fading optimism between Friday and Monday.
The Monday effect has been a mainstay anomaly of stock trading for years. According to a study by theFederal Reserve, there was a statistically significant negative return over the weekends prior to 1987. The study did mention that this negative return disappeared between1987 and1998. Since then, volatility over the weekends increased again, rendering the phenomenon of the Mondayeffect a much-debated topic.
Example of the Monday Effect
Here's a hypothetical example to show how the Monday effect works. Let's saythe Dow Jones Industrial Average (DJIA) rose steadily during the last hour of trading on a Friday and closes at 20,000. According to the Monday effect, once the Dow Jones re-opens the next Monday morning, the upward performancewillcontinue for the first hour or so of trading. From 20,000, the Dow Jones may also riseduring the early hours of trading.
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FAQs
The Monday Effect is a theory in finance that the prevailing trends in the stock market on Friday will continue into Monday. In very simple terms, if the market is up at close on Friday, it'll continue to go up at the open on Monday, and vice versa.
What is the Monday effect in the stock market? ›
The weekend effect, sometimes also called the Monday effect, refers to an anomaly where the stock prices are high on Friday and comparatively lower on Monday when the weekend has passed. We take a look at how prominent the effect is, and some reasons behind it.
Do stock prices go up on Monday? ›
(The weekend effect is sometimes known as the Monday effect, although that theory states that returns on the stock market on 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. )
Is Monday good for stocks? ›
Many forums will tell you that Monday is the best day to buy stocks, while Friday is the best day to sell stocks. The logic behind this advice is that stock prices are said to be at the lowest on a Monday (meaning you will buy shares at a lower price).
Are stocks lower on Monday or Friday? ›
However, some traders and investors believe that markets tend to trend downward on Mondays. This can mean much lower returns on Monday than there were to be had on Friday, making Monday traditionally known as a good day of the week to snaffle up potentially undervalued stocks and indices.
What is the negative Monday effect? ›
What Causes the Monday Effect? Proponents of the Monday effect provided several reasons why the stock market's action on Monday could mirror the Friday close. Short sellers often covered their positions on Fridays because the markets were closed over the weekends, leading to negative returns on Mondays.
Should I avoid trading on Mondays? ›
Yes, typically, the middle of the week, particularly Tuesday through Thursday, offers the most movement in the market. Mondays can be slower as the market stabilizes after the weekend, and Fridays often see reduced activity as traders close positions before the weekend.
What is the 10 am rule in trading? ›
Some traders follow something called the "10 a.m. rule." The stock market opens for trading at 9:30 a.m., and the time between 9:30 a.m. and 10 a.m. often has significant trading volume. Traders that follow the 10 a.m. rule think a stock's price trajectory is relatively set for the day by the end of that half-hour.
What is the cheapest day of the week to buy stocks? ›
Mondays and Fridays tend to be good days to trade stocks, while the middle of the week is less volatile. Historically, April, October, and November have been the best months to buy stocks, while September has shown the worst performance.
What day of the week does the stock market do worst? ›
During a bear market, Mondays and Tuesdays are most volatile, and stocks tend to fall the most on these days. In contrast, Thursdays are good days to sell because stocks tend to rise during that day of the week.
It is not a hard and fast rule, but rather a guideline that has been observed by many traders over the years. The logic behind this rule is that if the market has not reversed by 11 am EST, it is less likely to experience a significant trend reversal during the remainder of the trading day.
What is the 3-5-7 rule in trading? ›
The 3–5–7 rule in trading is a risk management principle that suggests allocating a certain percentage of your trading capital to different trades based on their risk levels. Here's how it typically works: 3% Rule: This suggests risking no more than 3% of your trading capital on any single trade.
Which day is best to buy stocks? ›
The upshot: Experienced traders often view Monday as the best day of the week to buy and sell stocks because of the time and pent-up demand since the last trading session the previous Friday.
What days do stocks go down? ›
Throughout the history of stock trading, some observers have noticed certain trends related to days of the week. For instance, the “Monday Effect” is a phenomenon wherein stocks tend to experience a dip early in the week, which is often attributed to negative news released over the weekend.
How to predict if a stock will go up or down? ›
We want to know if, from the current price levels, a stock will go up or down. The best indicator of this is stock's fair price. When fair price of a stock is below its current price, the stock has good possibility to go up in times to come.
How much money do day traders with $10,000 accounts make per day on average? ›
With a $10,000 account, a good day might bring in a five percent gain, which is $500. However, day traders also need to consider fixed costs such as commissions charged by brokers. These commissions can eat into profits, and day traders need to earn enough to overcome these fees [2].
What is the day of the week effect in the stock market? ›
Day of the Week Effect & its Possible Explanations
More specifically, according to this phenomenon, there are systematically negative returns on Monday and systematically positive returns on Friday.
What is the 10 am rule in stock trading? ›
Traders that follow the 10 a.m. rule think a stock's price trajectory is relatively set for the day by the end of that half-hour. For example, if a stock closed at $40 the previous day, opened at $42 the next, and reached $43 by 10 a.m., this would indicate that the stock is likely to remain above $42 by market close.
