The Santa Claus rally is used to describe the tendency for the stock market to rise in the last five trading days of the current calendar year and the first two trading days of the new year.
The Santa Claus rally describes the tendency for stock markets to rise in the last trading week of December and the first two trading days of the new year.
It was first defined in The 1972 Stock Trader’s Almanac.
The Santa Claus rally can also be used as an early indicator for what may happen in the new year.
Understanding the Santa Claus Rally
The Santa Claus rally was first defined in The 1972 Stock Trader’s Almanac by Yale Hirsch and used to describe the phenomenon of a sustained increase in the stock market during the last trading week of December and the first two trading days of the new year.
According to The Wall Street Journal, historically, the S&P 500, the Dow Jones Industrial Average (DJIA), and the Nasdaq Composite have risen about 80% of the time during the Santa Claus rally period. The average returns for the S&P 500, the Dow, and the Nasdaq Composite over the period have been 1.3%, 1.4%, and 1.8%, respectively.
In addition to the Santa Claus rally marking a strong trading period, it is also used by traders as an early indicator for what may happen in the new year. As one of Yale Hirsch’s famous lines states: “If Santa Claus should fail to call, bears may come to Broad and Wall.”
According to Ryan Detrick, LPL Financial Chief Market Strategist: “Going back to the mid-1900s, there have been only six times Santa failed to show in December. January was lower five of those six times, and the full year had a solid gain only once.”
Causes for the Santa Claus Rally
There are no generally accepted reasons for what causes the Santa Claus rally to occur. The most common reasons include:
Institutional investors/traders tend to be on vacation during the last week of December, resulting in retail investors driving the stock market, of whom tend to generally be more bullish
Investors/trading purchasing in anticipation of the January Effect, which is a hypothesis that there is a seasonal anomaly causing stock prices to increase in the month of January more than in any other month
A slowdown in tax-loss harvesting, which has a deadline of December 31
Optimism over a coming new year
The following shows the five-year performance of the S&P 500, the Dow Jones Industrial Average, and the Nasdaq Composite over the last five trading days of each year and the first two trading days of the new year:
Illustrated above, the S&P 500 and Dow recorded gains over the Santa Claus Rally periods from 2017 to 2021. Only the Nasdaq Composite reported a loss in one year during the same period.
Will a Santa Claus Rally Occur in 2022?
Although data has shown that the Santa Claus rally period has generated more positive returns than negative returns, there is no way for traders/investors to predict whether it will happen again. It is important to note that past performance is not indicative of future results.
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