Image of Wall Street sign with a Christmas tree in the background.

Is a Santa Claus rally on its way?

After a rocky year in the stock markets, investors are probably hoping for one thing: a year-end rally. History shows that this might happen, based on the Santa Claus rally phenomenon. So, what is a Santa Claus rally, and will we see one this year?

What is the Santa Claus rally?

The Santa Claus rally is a historically strong period for stocks at the end of the year. This typically happens in the last five trading days of the year and the first two of the new year.

The term was coined in 1972 by Yale Hirsh in the Stock Trader’s Almanac. He observed that the S&P 500 gained an average of 1.5% during the seven-day period from 1950-1971. Over the years, we have seen this pattern continue. Since 1945, the market has gained during those days over 75% of the time.

Zooming in on the past five years, the S&P 500, Dow Jones and Nasdaq Composite all recorded gains in the Santa Claus rally period, except for the Nasdaq Composite in the last two years.

Year S&P 500 Dow Jones Nasdaq Composite
2018-19 1.3% 1.1% 2.1%
2019-20 0.3% 0.3% 0.8%
2020-21 1.0% 0.9% 0.4%
2021-22 1.4% 2.4% -0.2%
2022-23 0.8% 0.7% -0.2%

Hirsh sees the Christmas rally not only as a frequent occurrence but also as an indicator of the performance of the market in the coming year. He famously said, “If Santa Claus should fail to call, bears may come to Broad and Wall”, referring to the location of the New York Stock Exchange on Wall Street. What he means is that in years where there is not a Santa Claus rally, it’s more likely that the following year will not be positive for the market and vice versa.

In some years, like 2008 and 2018, the Santa Claus rallies successfully predicted bull markets for the coming year. However, in other years, 2021 for example, this wasn’t the case. There is no clear evidence of a relationship between Santa Claus rallies and market performance beyond coincidence when the two align.

What causes a Santa Claus rally?

There is not a single cause for the Santa Claus rally, but these are some theories behind it:

  • Investors often buy stocks ahead of an anticipated rally in January, known as the January effect.
  • The holiday spirit fuels optimism during this time of year.
  • End-of-year bonuses or gifted holiday money give people money to invest in the market.
  • During this time, institutional investors are on vacation, giving more influence to retail investors, who tend to be more bullish.
  • The tax year ends December 31st, so some people may rush to complete trades beforehand.

What is the January Barometer?

On top of a Santa Claus rally, some investors look at the January Barometer to make predictions about market performance trends for the rest of the year. As the name suggests, it analyses stock market performance – specifically the S&P 500 Index – during the month of January.

This barometer works on a simple principle: "As January goes, so goes the year". This means that if the stock market experiences positive returns in January, it is expected to continue performing well for the rest of the year. Conversely, if there are negative returns in January, it could indicate a challenging year ahead.

While the January Barometer has gained popularity among investors and analysts, it's important to understand its limitations. Correlation does not imply causation. External factors such as geopolitical events or economic indicators can influence market trends independently of this barometer.

Trading the Santa Claus rally

Here are some tips you may want to consider when trading during the Christmas rally:

  1. Do your research: It is important to identify sectors or stocks that historically perform well during this period. Consider looking for companies with strong fundamentals and positive growth prospects.
  2. Create a watchlist: Compiling a list of potential stocks that you want to monitor closely during the rally may help you. Keep an eye on their price movements and any relevant news or events that could impact their performance.
  3. Set clear entry and exit points: Consider defining your profit target and stop-loss levels before entering a trade. This will help you stay disciplined and avoid making impulsive decisions based on short-term market fluctuations.
  4. Diversify your portfolio: Spreading your investments across different sectors or asset classes can help you to reduce the risk. Diversification can also help protect your portfolio in case the Santa Claus Rally doesn’t materialise as expected.

Will we see a Santa Claus rally this year?

The Santa Claus rally has boosted the S&P 500 by an average of 1.3% since 1969. But there is no guarantee that we will see gains this year. As we approach the end of 2023, a Santa Claus rally could be at risk for several reasons. A number of factors are currently influencing market sentiment, such as the ongoing recovery from the pandemic, concerns about inflation and geopolitical factors.

  • Inflation: Despite falling from 9.1% to 3.7% since last year, US inflation remains above the Federal Reserve's target of 2%. Persistently high inflation levels could potentially lead to further interest rate hikes that could weigh on market sentiment.
  • A strong dollar: The USD is strong right now, which is generally negative for US stocks, commodities and most currency pairs.
  • Slowdown in China: So far this month, the Hang Seng index has been down and the Chinese yuan reached a 16-year low against the US dollar. A weak yuan makes imports more expensive and contributes to inflationary pressures.
  • Geopolitical risk: Tensions and wars around the world, such as the war in Ukraine, could increase uncertainty and volatility in the markets.
  • Oil prices: Oil prices are currently above $90 per barrel, and, historically, high oil prices have created economic challenges by fueling inflation and increasing input costs for businesses.

This year, the Santa Claus rally period will start on Friday, December 22nd, and will last until Wednesday, January 3rd. We will have to wait to see if Santa Claus is coming to town this year!

Key takeaways

  • The Santa Claus rally is a historically strong period for stocks at the end of the year. This typically happens in the last five trading days of the year and the first two of the new year.
  • Several factors can influence the possibility of a Santa Claus rally, such as inflation and geopolitical events, and there is no guarantee that it will happen every year.
  • If you want to trade during this period, it can be helpful to do your research, diversify your portfolio, focus on the long-term goals of your investment strategy and stay up to date with market trends.

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The information in this article is not written for advisory purposes, nor does it intend to recommend any investments. Please be aware that facts may have changed since the article was originally written. Investing involves risks (e.g., price volatility, currency or liquidity risk). You can lose your invested funds. We advise you to only invest in financial products that match your knowledge and experience. Past performance is not a reliable indicator of future results. Markets are volatile and can fluctuate significantly due to economic, political, regulatory, or other developments.

Sources: Reuters, Motley Fool, Seeking Alpha, Corporate Finance Institute, Bloomberg, Wall Street Journal

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Investing involves risks. You can lose (a part of) your invested funds. We advise you to only invest in financial products which match your knowledge and experience. This is not investment advice.

Investing involves risks.

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