Stock Investing: The Santa Claus Rally

In mid-December there is nothing discussed more often on Wall Street than the so-called “Santa Claus rally”. The Santa Claus rally, also referred to as the year-end rally, is a phenomenon that occurs almost every December when the price of stocks surge. While some consider the entire month of December as the time period for the Santa Claus rally, most traders recognize that it primarily occurs during the last week between Christmas and New Years.

“Yes Virginia, there really is a Santa Claus”
If there really is such thing as a Santa Claus rally then statistics should prove it out. And apparently they do. Over the past 100 years, December has had positive returns 73% of the time. December is on par with July as the best performing month over the last 100 years. Over the last 20 years the statistics have been even more impressive with positive gains in December 81% of the time.

Why is there a Santa Claus rally?
There are several factors that contribute to the rally, including:

• anticipation of the “January Effect” (stocks generally rise in January);
• expectations for strong fourth-quarter earnings due to consumer holiday spending;
• accounting and tax benefits;
• euphoria of the holiday season; and
• investment of Christmas/year-end bonuses.

While these are all legitimate arguments and do contribute to the year-end rally, the main factors are: (1) light trading over the Christmas holidays combined with; (2) professional fund managers performing year-ending window dressing. These fund managers take advantage of the quiet markets to prop up their net asset values as the calendar year wraps up. After all, their bonuses depend on it. The fund managers also don’t want their annual reports, published in the first quarter of the following year, to reflect that they are sitting on cash. Investors like to see their money invested.

How do I take advantage of the rally?

The best performing sectors at year end tend to be small caps, utilities, home builders, metals and mining and health care. If you don’t want to risk capital on individual stocks then you can invest in Exchange Traded Funds (ETFs) that provide broad sector coverage. The following ETFs are suggested:

• Small Cap: iShares Russell 2000 Index (IWM)
• Utilities: Uilities SPDR (XLU)
• Homebuilders: SPDR S&P Homebuilders Index (XHB)
• Metals and Mining: S&P Metals and Mining (XME)
• Health Care: Health Care SPDR (XLV)

And just to be sure… Don’t forget to leave milk and cookies by the chimney mantle!