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What is the Santa Rally?

The Santa Rally is a phenomenon which sees the stock market noticeably outperform during December, specifically in the period immediately following Christmas Day.  It is most commonly defined as bump up for equity markets during the 5-7 days following December 25th but has been broadened by some investors to include the whole of December. This works in conjunction with the notion that December has the highest probability for outperformance compared with the rest of the year. Schroders documents positive average returns for US stocks in 78% of Decembers since 1926 with an overage outperformance of 1.6%. However, while December is a prosperous month on average over a large dataset, there are no guarantees of Santa coming to Wall Street every year, leaving the ‘Santa Rally’ as a somewhat illusive Christmas miracle for traders to hope for in the festive season.

What causes the Santa Rally

There is no consensus on what the Santa Rally can be attributed to on the years that it does happen. Of course, the global political and economic landscapes will play a role as announcements are made and investor sentiments are beginning to formulate for the coming year. There are some frequently used explanations applied specifically to the five-day outperformance period leading up to Christmas. 

The first of the Santa Rally explanations is simply the feel-good effect of festive cheer from the holiday season prompting investors to feel more optimistic about acquiring assets around the Christmas period. Similar to what we have seen during this year’s World Cup, people are far more likely to feel optimistic about the stock market if they feel optimistic about other events in their lives. The Journal of Financial and Quantitative Analysis has conducted research that wholeheartedly supports this notion. They found that non-economic factors such as sports results, holiday cheer, and seasonal affective disorder have drastic knock-on effects on investor sentiment – we are only human after all!

Another, perhaps more empirical explanation for the Santa Rally, is that the rally occurs in conjunction with Christmas bonus distributions. The vast majority of people eligible for bonuses at the end of the year (very sensibly) do not include their bonuses within their budgeting plans. Therefore, when this injection of disposable income reaches their accounts, they are left with a decision to either spend, save, or invest that capital. If they spend the money this can help contribute to increased investor confidence as retail spending rises. If they invest it, the money will obviously directly affect the share prices of the purchased assets. This makes Christmas bonuses an attractive explanation for enabling the occurrence of a Santa Rally. 

The Santa Rally can also be explained by factors such as end-of-year portfolio rebalancing and lower trading volumes facilitating greater volatility around the holidays. However, perhaps the greatest multiplier towards the occurrence of a Santa Rally is the snowball effect of the rally itself. As investors are aware of the possibility of a Santa Rally, if indices begin to return gains in December, they will naturally want to profit from that emerging trend by buying those instruments. This in turn increases the net returns over the period as more investors try to capitalize before the rally ends. 

The Rallies of Christmas Past

The Santa Rally was first catalogued in 1972 by Yale Hirsch in his ‘Stock Trader's Almanac’ where he recorded a 1.5% average gain between 1950 and 1971. Since that first statistical reference in 1950 December has boasted an average gain of 1.6% for the S&P 500. Last year's Santa rally was the largest in nearly a decade - moving the S&P 500 by an impressive 1.4% in only 7 days. For the UK, the FTSE has made gains on over 80% of Christmases between 1985 to 2015 with an average outperformance of 2.26%. Historically, the odds of a Santa Rally are high. However, the past can of course only inform the future and not predict it. 

Will there be a Santa rally in 2022?

As with anything when it comes to the markets there will always be opposing predictions. CNBC’s Jim Cramer seems bullish for December, predicting rallies into at least mid-December. He said, “this rally could potentially have real legs” as Inskip’s analysis highlighted ‘bullish divergence’ in recent months for the S&P500. Equally, however, the likes of Citigroup have conveyed doubts around the possibility for a Santa Rally, particularly uncertainty surrounding the Federal Reserve and probability of a rate hike reversal. With the next FOMC (Federal Open Market Committee) meet not on the books until December 13-14 certainty around the rally may not emerge until then. 

A dovish Fed would certainly make a 2022 Santa Rally more likely, but this is yet to materialise this quarter. Jerome Powell, the Fed chair, has publicly warned more than once that ending the tightening cycle early may not be the best modus operandi moving forward. If the Fed does not announce any kind of easing investors may have to write off a December boost, particularly as the rally tends to be less likely to occur if outperformance was strong the previous holiday season; as would be the case with such strong December performance last year. We can only hope that Powell is checking his list and checking it twice as policy will be a key dictating factor in whether or not Santa comes to town.

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