What is the Santa Claus Rally?

What is the Santa Claus Rally?

A Santa Claus rally describes a sustained increase in the stock market that occurs in the last week of December through the first two trading days in January. There are numerous explanations for the causes of a Santa Claus rally including tax considerations, a general feeling of optimism and happiness on Wall Street, and the investing of holiday bonuses.

Another theory is that some very large institutional investors, a number of which are more sophisticated and pessimistic, tend to go on vacation at this time, leaving the market to retail investors, who tend to be more bullish.

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 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.

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There are also theories that the rally occurs 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.

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
  • Holiday spending

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% 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%.

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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.

Is the Santa Claus Rally Real?

The term Santa Claus rally was coined in the early 1970s by a stock market analyst who noticed a pattern of higher market returns between the first trading session after Dec. 25 and the first two trading sessions of the new year. Though past results can never guarantee future performance, the data seems to support that rallies during these time periods happen more often than not.

Since 1950, the S&P 500 has gained an average of 1.3% during Santa Claus rally periods, according to The Stock Trader’s Almanac. Since the launch of the SPDR S&P 500 ETF Trust (SPY) in 1993, the Santa Claus rally has produced gains 18 out of 27 times, or about two-thirds (67%) of the time. According to Gordon Scott, a member of the Investopedia Financial Review Board, all other six-day periods since 1993 have produced positive SPY returns 58% of the time.