Will the stock markets see Santa Claus rally this month?

HIghlights 

• A Santa Claus Rally refers to positive surge in the stock market in the last few weeks of December until the first two trading days in January.
• But this year might see the same trend as the fear of Omicron virus is increasing among investors.

As December is seasonally the strongest month of the year as investors usually expect positive rally in the stock market, also known as Santa Claus Rally. Coined by analyst Yale Hirsch in 1972, the trend is based on the rise in stock markets due to more retail activity. So, it starts from Black Friday and extends till the end of the year to maximum first two days of the year. Since 1936, stocks have delivered the return an average of 2.3% in December and generated a positive return 79% of the time.

But this year as the fear of Omicron virus is increasing, investors may not see Santa Claus Rally. Any surge in the Covid cases may affect the supply chain and could slowdown growth with increasing inflation. Stephen Suttmeier, chief equity technical analyst at Bank of America, said that investors this year have given up on the December rally due to Omicron virus and supply crisis.

Also read: Government introduces fresh measures to contain Omicron variant

What is a Santa Claus Rally?

A Santa Claus Rally refers to positive surge in the stock market in the last few weeks of December until the first two trading days in January. There are many reasons that lead to Santa Claus Rally such as sentiments of optimism due to holidays, the investing of holiday bonuses in stock market, tax considerations, high demand due to Christmas and happiness on Wall Street.

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Another proposition says that large experienced and pessimistic institutional investors go on vacation, giving up the market to bullish retail investors. Dating back to the 1960s, over two-third of Decembers has delivered the positive returns to the investors but, it there is no guarantee that we may experience it in future. 

According to the 2016 edition of “The Stock Trader’s Almanac”, the Santa Claus rally since 1969 has delivered the average cumulative return of 1.4% over the rally days and has given positive returns in 34 of 45 holiday seasons.

Some believes that investors buy stocks in anticipation that the prices will rise in January which results in a positive rally in stock market and there are some research that shows that in December the value stocks outperforms growth stocks as many mutual funds invest in value stocks.

Also read: Top investing lessons of 2021

Where did it start

The Santa Claus Rally was introduced in early 1970s by Yale Hirsch, Founder of the “The Stock Trader’s Almanac”. He noticed a bullish trend in the last and the first weeks of the December and January, respectively and according to him the S&P 500 has delivered a return of an average 1.3% since 1950. Further, SPDR S&P 500 ETF Trust (SPY) has given a return of 67% of the time, since its inception in 1993. 

When the world economy was recovering from the financial crisis, between the late of 2008 and early 2009, the S&P 500 rallied 7.4%, which was almost double the return of the next strongest rally. However, after the rally the S&P 500 fell by 10.95%. 

Then the second best rally came in 2018 after the worst year for the S&P since the 2008 financial crisis, when it again rallied over 6%, but it still ended with the month of biggest lost since great depression. But due to Santa Claus Rally in January it again gained 7.69%.

Positive period

Usually, investors and analysts look into the historical patterns in the stock market such as the Santa Claus Rally to exploit the market and limit the amount of risk and reward by taking position sizing, stop orders and cutting losses short in case the position goes against them. These investors also plan their entry and exit from particular position by analyzing the technical patterns. 

However, even historical patterns are not useful for investors who are new to stock markets and can’t manage risk in short-term. The Santa Claus Rally does not help much to long-term investors and people saving for retirement in 401 (k) plans, as it is a short-term upward trend that do not last for days or months.

What’s in store for this year?

Analysts suggest that most investors don’t believe in the December rally and sentiment shows that strategic contrarian bullish levels of fearfulness are developing. Since US Presidential Election last year, the five day total put and call increased above 1 for the first time and the three month VIX relative to the VIX prompted a strategic capitulation signal last week. Further, last week the AAII Bearish Sentiment touched year-to-date high in bearishness.    

Since 1896, the Dow Jones Industrial Average has generated return of 2.5% on November through December, which is higher than the return generated in other months of around 1.3%.  

If stock market do not experience a Santa Claus Rally this year it would be nothing special as the stock market has seen wild swings since Black Friday and the concern over the Omicron virus are also increasing. Despite two-day rally this week, the S&P 500 is still 1% down from its November high. 

Last year, stock market saw a large bullish breakdown to verify a healthy cyclical bull market and the potential for the rally from March to continue. But many indicators across volume, financial conditions and breadth show a positive sign, failed breakouts and bearish divergences, as we move towards 2022.  

While the historical data are not indicative of future returns, but it would be worth watching if the stock market will experience a Santa Claus Rally this year.

The UK market

In 2020, Santa rally did happen despite the pandemic and global slowdown. Global equities showed a decent rally with US stocks recording a successive rally around Christmas last year. While global equities have delivered an average capital return of 1.68 per cent in December over the last 40 years, the UK market has given a higher return of 2.18 per cent.

Last year, the FTSE 100 overall lost 14.3 per cent over the course of the year, which was one of the worst years.

Also read: Is Crypto Now Back To a Bear Market?

Bitcoins and seasonal rally

With Bitcoin prices plunging during the last few weeks of this year below US$50,000 level and again crossing the mark, several investors and analysts believe the world’s most prominent digital currency might see a Santa Claus Rally at last. However, for the first time since April, the weekly Moving Average Convergence Divergence (MACD) is on a sell signal that will lower the chances that cryptocurrencies will see a Santa Claus Rally by December end.