The Santa Rally is the slightly odd observation that stock markets generally go up over the Christmas period. The point to be wary of here is the “generally”. The Santa Rally is not a certainty, but it is something that happens often enough that it’s a real thing.
The original observation of the Santa Rally was back in the 1970s. On average the period from Christmas Eve through to a couple of days after New Year produces a 1.4% gain in some calculations. There’s a certain amount resting on that “average” though. Since 1993, and not including this year, the gains have happened 18 out of 27 times, or 67%. That’s opposed to a more general idea of 6 day periods being up 58% of the time.
Part of this is simply that we’ve been in a generally rising market these past decades. Sensible, given that stock indices are not adjusted for inflation. But the different performance there, the difference between the 58 and the 67%, is that Santa Rally.
As to why it happens there are competing theories. A cynical one – but could be true for all that – is that those who run investment funds get their bonuses calculated on the annual return. So, in the thin holiday period markets a bit of judicious buying of this and that is done in order to juice returns and so bonuses. The implication of that is that January itself should therefore show falling returns as the effect unwinds.
Given that January doesn’t in fact seem to have generally falling returns that might not be quite so. Which gives another explanation, that buying occurs towards year-end in order to take advantage of generally rising prices in January. This at least has a rational possible explanation. Many American – especially – companies have fiscal years which match the calendar one. So, trading statements and results come in something of a rush in the New Year – share prices can indeed rise in anticipation.
The difficulty with trading any such observed pattern – there’s also the Monday Effect which used to be true and is now much less so, actually inverting for large stocks – is that markets are forward-looking. So, as people catch on to the pattern the trades to take advantage of it come earlier and earlier. If stocks are going to go up 23 Dec to 3 Jan then buy on 22 Dec and sell on 2 Jan. And when that’s established, then buy Dec 21 and so on. The general acknowledgment of the pattern will both aid in creating and continuing it that is – and also move it earlier through time.
One final possible explanation for the Santa Rally is that the professional and institutional investors are usually at home, or most of them are. The market is therefore dominated by retail investors who generally are more bullish in their behaviour.
That Santa Rally – stock market prices rise over the winter holiday period – is something that is often observed. The difficulty with trading it is that the gains are pretty marginal – that 1 or 2% for this effect alone – and it doesn’t always arrive. It only tends to arrive so there’s risk there to offset against that marginal possible gain.
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Tim Worstall is a freelance writer specialising in economics and the financial markets.