History suggests it’s real, most of the time
There are several things that inevitably find their way in stock market news come December. Annual performance, outperformers, stand-out companies are all mentioned and repeated ad nauseum. But one of the more curious ones is the so-called Santa Claus rally (it comes from the U.S. so no Father Christmas).
This curious description is used to describe the frequent rise in indexes and stocks, that comes at the end of the month, between Christmas and New Year. It’s one of the peculiarities of the market, as over longer periods of time many trends based solely on psychology and trader sentiment tend to even out. But statistics do show that it’s quite frequent (stats are for the U.S. index S&P, from 1930 to 2010, broken down per month and per week for December. You can easily fill them out to 2014 in the Trading 212 PRO platform).
Explanations for why this happens can be quite different. The most well-documented one is the anticipation of the January effect (we’ll get into more detail about it next week) – the practice of offloading stocks at the end of the year, so that no taxes are paid.. and then buying again into the market at the start of January.
Other reasons that fuel the rally are related to the traders and brokers that perform the trading itself. Bonuses on Wall Street are received before Christmas and are usually invested right away. Add that to the propping up of investment portfolios by fund managers, so that they look good at year end, and you have a strong foundation for an upturn.
The more unmeasurable explanation is that of increased optimism among traders. In a time for spending more time with family in sharing and giving (we know it doesn’t always happen like that, but let’s go along with it), some argue that it rubs off on market participants. This translates into a more bullish sentiment and actual stockholders prefer to keep it that way.
The phenomenon has also been observed in international stock markets, regardless of the popular religion of the country, or if they even have holidays at the end of December. Most analysts accept that U.S. indexes are the pacesetters most of the time and this pulls other countries upward.
There are still several things to remember about the rally:
It doesn’t happen every year and it can be quite small sometimes.
Some specific stocks can register serious losses while the wider markets are in the rally.
Indexes in different countries can perform differently due to economic and global events, and the last week of December isn’t devoid of geopolitical news and developments.
Still, the lone fact that this notion exists can be seen as an indicator of what market participants are expecting. Circumstances such as these can fuel a self-fulfilling prophecy, overriding fundamentals, news and technical indicators. In this case the power of the sentiment outweighs that of the usual predictors. It’s just like guessing what your Christmas stockings hold by weighing what’s inside.