I provide a risk-based rational explanation for the seasonal regularity of January in stock returns by suggesting a common risk factor related to the information uncertainty caused by earnings volatility. When the two-factor model with the market risk factor and this common risk factor is used, there is a remarkable improvement in explaining the January effect. With the adjustment of raw returns for risk through this two-factor model, the systematic pattern in the residual returns across firm size disappears. This risk factor also dominates the other risk factors in explaining the cross-section of stock returns in January.
Key words: January effect, Earnings forecast errors, Empirical asset pricing models, Residual returns
