Santa Claus rally: What do investors need to know?
It’s the question that’s regularly on investors’ minds as we approach the festive time of year: Should we be expecting a Santa Claus rally in stock markets?
This phenomenon is usually discussed during the early weeks of December as people start to feel more optimistic about the upcoming year.
But is this Christmas rally a reality or just another investment myth? Here we take a look at its history, assess whether we’ve seen an uplift in the past, and suggest what to expect this year.
What is the Santa Claus rally?
The best Santa Claus rally definition is that stock markets post positive results in the immediate run-up to Christmas and the very start of the new year.
According to LPL Financial, a US-based advisory firm, the term was first adopted in 1972 by Yale Hirsch, creator of the Stock Trader’s Almanac.
When it comes to Santa rally dates, however, it points out that the term is misunderstood.
“The real Santa Claus Rally is the final five trading days of the year and first two trading days of the following year, not just December,” it stated.
Why does the Santa Rally happen?
There are a number of different theories. The key elements include seasonal goodwill among investors, who are more willing to buy around Christmas.
Among contributing factors that could cause the Santa Clause effect are lower volumes over the holiday period along with fund managers rebalancing their portfolios before the year end.
It may also be due to hedge funds, which having taken short positions, close them before the year end.
Or it could be people investing Christmas bonuses, bargain hunters looking for stocks or the psychology of stock markets themselves.
Santa rally history
That is the theory, but what is the reality? Are there any Santa rally examples from previous years that indicate whether it’s possible to make returns?
Seasonax ran numbers from the S&P 500 over the three decades between 1986 and 2016. The results from that analysis suggest it’s not a myth.
“The year-end rally occurred in 24 of the past 30 years, with the largest gain amounting to 9.07%,” it stated. “There were six years without a year-end rally and the largest loss amounted to 1.50%.”
Seasonax found that the Santa rally begins on 15 December, with prices often pulling back prior to that date. The uptick in prices typically lasts until 3 January of the next year.
“The average return of the time period from December 15 to January 3 amounts to 2.15%,” it stated. “Superficially this seems to be a small amount, but consider that it is achieved in a mere 19 calendar days.”
According to Seasonax, the average gain produced by the year-end rally is equivalent to an annualised return of 50.45%.
“By way of comparison, over the entire 30 year period, the S&P 500 Index itself has only generated an average annualised return of 7.52%,” it added.
Compelling evidence
UK market commentators have witnessed a Christmas rally on the stock market.
According to Jason Hollands, managing director of Bestinvest, a London-based investment company, there is “compelling evidence” to support the idea of a Santa rally.
Hollands pointed out that global equities have delivered positive returns 80% of the time in the month of December over this period, far higher than any other month.
“When it comes to the UK stock market, this success rate is even more pronounced, with December delivering positive returns 83% of the time,” he said.
This shows there could be a Santa rally on the stock market. In addition, when it comes to the average returns generated in December, Bestinvest’s analysis has revealed what could be an encouraging end of year pattern.
“Global equities have delivered an average capital return of 1.68% in the month of December over the last forty years, rising to 1.85% when reinvested dividends are taken into account,” he said.
This marks December out as having the highest average returns of any month, followed by November and January.
How to trade the Santa rally
According to Seasonax, Santa rallies tend to have a significant impact on major indices.
If you believe we are headed for one this year, it could be time to keep track of them, whether you focus on the FTSE 100, S&P 500 or Germany’s DAX 40.
US stocks have recorded a positive return in 77.9% of December since 1926, according to data analysed by Schroders and provided by Morningstar Direct. Over that time, stock prices returned, on average, 1.6%.
However, Schroders also emphasised it’s unwise to draw conclusions from stock market history, citing the stock market fall in December 2018.
“It proves two things: past performance cannot be relied upon and stock market superstitions are only true until they fail to be,” it stated.
While it acknowledged that stock market history can be fascinating, Schroders also pointed out how it can often lead to assumptions, such as whether you should sell in September.
“Trying to time markets at all is a questionable strategy as it is impossible to predict short-term movements in the market,” it added.
Santa Claus rally predictions: Will Santa be calling this year?
Of course, we are battling some significant global issues this year that could have a major bearing on whether anything approaching a Santa rally will actually take place. We asked experts for their opinions.
Tom Stevenson, an investment director at Fidelity International isn’t sure Santa will be making his annual visit this year.
Stevenson believes the markets are certainly looking oversold, pointing out that just 21% of leading US companies are above their 20-day moving average.
“That’s at the low end of the recent range,” he said. “Much will depend on inflation expectations and the US Federal Reserve’s response.”
Stevenson also pointed out that more lockdowns and travel curbs could mean 6.2% marking the peak for US prices. “If the market tumbles, the Fed will likely follow its 2016 and 2018 playbooks and hold back on tapering,” he added.
Omicron casts a cloud on the Santa rally
Ben Yearsley, investment director at UK-based Shore Financial Planning, is under no illusions as to what will be the prime influencing factor over the next few weeks.
It’s a point echoed by Russ Mould, investment director at AJ Bell, who pointed out how markets were continuing their “up and down trajectory” since the new variant emerged.
The deciding factor will be just how disruptive it proves to be – both in our everyday lives and as far as companies are concerned.
Central bank uncertainty
Then there is central bank uncertainty. Will the Federal Reserve (Fed) really go full steam ahead with tapering if the response to Omicron requires further lockdowns? Is an interest rise from the Bank of England (BoE) before Christmas off the cards?
Joshua Mahony, senior market analyst at IG, is optimistic about the prospects for the next few weeks – particularly if an Omicron-inspired major global lockdown can be avoided.
“While we could see monetary policy hold back tech stocks, we are looking increasingly likely to stage a Santa rally,” he said. “Airline stocks on the rise as countries slowly realise that travel restrictions are hopeless when you have community transmission of a highly contagious virus.”
Note that analyst predictions can be wrong. You should always conduct your own research before making any investment or trading decision.
FAQ
When does the Santa Claus rally start?
Opinions vary between commentators, but the best assumption is the last five trading days of the year and the first two in January.
Is the Santa Claus rally for real?
Financial commentators say there is financial evidence of stock markets picking up at this time of year, although past performance has no bearing on what may happen in the future.
Will there be a Santa Claus rally this year?
Nobody knows. A lot will depend on Omicron, the new Covid-19 variant, as the markets are still waiting to hear how disruptive this strain will be over the coming weeks.
Read more: Everything you need to know about ESG investing
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