What Is A Santa Claus Rally?
A Santa Claus Rally is a seasonal stock market trend that often occurs near the end of the fiscal year. The stock market often yields positive returns during the last five business days of December and the first two business days of the new year, although this is by no means guaranteed. It was first observed by Yale Hirsch in the 1972 version of The Stock Trader’s Almanac.
Sometimes markets increase during each of the seven days that are associated with the Santa Clause rally period, though it can still be termed a Santa Claus Rally if the return is cumulatively positive over the seven-day period despite some negative market days. Some analysts view a Santa Claus Rally as a predictor of the performance of the market for the full upcoming year, although there is no clear evidence that such a relationship is anything beyond a coincidence when it occurs.
While the Santa Claus Rally was originally defined as lasting just seven days, some analysts and commentators tend to use the term more broadly to refer to longer time periods or even the entire month of December.
Tip: Calendar anomalies such as the Santa Claus Rally may have statistical significance over a very long period of time, but still not occur the same way in any individual year, or not at all.
Why Does A Santa Claus Rally Happen?
Like the jolly bearded man it is named after, no one knows the definitive reason why a Santa Claus Rally arrives in December and often gifts investors with positive returns through the holidays. There are, however, many theories.
Some believe that the rally is caused by the temporary bullish optimism of investors relaxing with family or from retail investors investing their holiday bonuses. There are also more general calendar trends called the 'holiday effect' or the 'long-weekend effect' where the stock market is theorized to perform better than average before holiday periods. This could be because lighter trading volumes during these periods make it easier for bullish investors to move the market.
Others insist that the Santa Claus Rally is related to increased holiday spending. In fact, some analysts suggest that strong retail spending is seen as an important economic indicator of economic growth and promotes bullish buying behavior as a result. High year-end sales figures have a tendency to drive retailer stock prices up in anticipation of good quarterly returns. Both of these things are seen as having a domino effect on the rest of the market, leading to broad-based price increases.
There are also theories that the Santa Clause rallies occur because institutional investors go on vacation over the holidays and aren’t actively trading during that time. This theory requires the assumption that retail investors tend to be more bullish and, when able to exert a larger impact on the market, will cause stock prices to rise.
Another theory is that investors are positioning themselves for the 'January Effect', a separate calendar-based phenomenon in which some stocks demonstrate a propensity to rise more than others during the post-holiday period in early January. The January Effect is believed to be the result of tax-loss selling in December to lock in losses, followed by repurchases in January, in compliance with the 30-day 'wash-sale' rules set by the IRS for taking capital losses.
Takeaway: The Santa Claus Rally is based on long-term statistics and theories about how investors behave around the end-of-year holidays, but cannot be assured in any given year, either in direction or magnitude.
How Frequently Do Santa Claus Rallies occur?
Historically, the Santa Claus Rally has occurred 76% of the time between 1950 to 2019. According to the 2019 Stock Trader’s Almanac, the market has risen an average of 1.3% each year during that period.
However, over the last 10 years from 2010 to 2020, the stock market only saw an average Santa Claus Rally of 0.38%. In some years, the stock market has also declined sharply during the days in question. For example, from 2014 to 2015 the S&P 500 experienced a decline of 3.01% and from 2015 to 2016, that index declined by 2.27%.
Those numbers illustrate the risk of investing based on calendar theories like the Santa Claus Rally. There is no way to predict if one will occur and sometimes the impact is relatively minor or can even be negative. Also, because it is unclear exactly why the Santa Claus Rally occurs, it is impossible to predict whether those influences will recur in any given year.
When Does A Santa Claus Rally Generally Start?
It is never possible to predict if or exactly when a Santa Claus Rally will take place, but the original statistics are predicated on a period that begins on the fifth last trading day of the year, which changes every year depending on what days of the week Christmas and New Year’s Day fall on.
That said, the media may loosely label what it refers to as a Santa Claus Rally that starts as early as Black Friday (the day after Thanksgiving) and continues throughout the month of December. This definition is much less scientific and should not be assumed to occur with the same level of statistical confidence as the original one defined by Yale Hirsch.
Bottom Line
The Santa Claus Rally makes for interesting news stories when the phenomenon occurs, but counting on it to usher in the New Year is by no means guaranteed.
