Dragging Santa Across The Finish Line

Includes: DIA, QQQ, SPY
by: Kevin Flynn, CFA

As we wind into the last week of the year, the “Santa Claus” trading period officially kicked off on Friday the 23rd. Tradition holds that the period comprises the last five trading days of December plus the first two of January. Looking ahead to the rest of the period, on the plus side for a continued drift upward are light trading conditions, European officials away on holiday, and a desire to market the tape higher.

The hazards for next week include the chance of a poor sales report for Monday the 26th (we’re not predicting it, but such an eventuality would disappoint), tax-loss selling by hedge funds, and the possibility that some journalist somewhere (but probably from London) will try to get some European official somewhere to blurt out something untoward after too much sherry (and if that doesn’t work, rehashing a three-month old scare piece might serve).

We would also be remiss if we didn’t point out that at the end of last quarter, there was clearly more ammunition deployed by those short the market, compared to those who were long. We don’t expect a repetition, but it could happen.

Some chart points to be aware of: an intermediate-term downtrend in the S&P 500 from June lies just above in the 1270 range.

click to enlarge

The index recently broke a long-term wedge pattern to the downside in the 15-year chart below, not so encouraging technically for the long term. At the same time, the 12-month moving average for the S&P is around 1280, so the market could be hard put to break above the 1260-1280 range.

Charts, of course, matter the most when nothing else does. Significant events and real fundamentals always trump technical factors, but left to drift traders will focus on them for lack of an alternative - which sounds like the base case for next week. In addition, there are always money pools using technical strategies and their presence is more noticeable when trading is light and/or uncertain.

In sum, next week rates to stay dull, but the last couple of days might surprise if some kind of tape-marking battle breaks out. Our base case is for the market to float towards 1280 on the S&P before running out of gas, and the markets would very happy to hold onto another gain of one or two percent.

Note, however, that the 15-year chart has a long-term trend line running from June 2007, with resistance in the 1330 range. That’s a good five percent away, but could be a tempting target for some. If a staged breakout above the 12-month average provokes enough buying to get to 1325 or so over the next couple of weeks, we’d sell that rally quicker than yesterday’s fish.

The economic news last week was good so far as employment and confidence goes, with adjusted weekly claims falling to a three-year low (the raw data looked relatively better too). However, personal income and spending for November were both lower than expected, and business capital spending fell again as the calendar begins to run out on the accelerated depreciation tax treatment. GDP for the third quarter was revised down again, this time to 1.8% annualized (and the year-on-year rate 1.5%). The inventory bulge from October continues to work itself off in various ways.

Retail sales reports have been mixed. The weather should help year-on-year comparisons (though not for winter apparel), but it doesn’t look as if December is going to be a bang-up month. Moderately better is our prognosis. There is some market buzz currently about the relative strength of the US economy, but we say it is overdone. However, if Europe can stay out of the headlines a bit longer, it could get more overdone.

This week’s light calendar is mostly surveys, with the highest-profile being consumer confidence on Tuesday and the Chicago purchasing index (PMI) on Thursday.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.