What Is Santa Claus Rally?

UTC by Beatrice Mastropietro · 8 min read
What Is Santa Claus Rally?
Photo: Unsplash

A common explanation behind this phenomenon is investors’ tendencies to sell stocks prior to year-end so they can claim capital losses on their tax return while taking profits on winning investments at the beginning of every new year. This guide has all you need to know about the Santa rally.

Santa Claus rally is a phenomenon that involves picking specific stocks set to get a seasonal lift from Christmas shopping trends. The hope is that these companies will get an extra boost driven by consumers spending money on gifts and holiday shopping activities.

The theory behind the Santa rally is that investors can make some rapid returns during this time by using real-world data rather than relying on complex algorithms or back-tested studies. It also depends on certain assumptions, including the idea that companies selling products geared towards children should rise in price during December. Unfortunately, it doesn’t always work that way.

The strategy of investing based on Christmas shopping trends is nothing new, but this one caught on, and it’s not hard to see why given how easy it was for people who had no prior knowledge of stocks at all to jump into the market. The philosophy behind the Santa Claus rally is straightforward, relying more on common sense than anything else. So even though some people may call it a scam or a hoax, there’s nothing negative about thinking about making extra cash during the holidays, assuming you don’t get burned like thousands of other people did.

The idea of the Santa rally is interesting, but the premise itself is not backed by any real data or facts. Therefore, it is not something you should take seriously if you don’t want to lose money.

Understanding the Santa Claus Rally

Many people think that the Santa rally is a perfect strategy for first-time investors and traders. And there are several reasons why. Firstly, the financial system around Christmas shopping trends means we can use actual data instead of complex algorithms and back-tested studies. It relies more on common sense than anything else. Children love gifts, and they spend money on toys and games during December. Mark Fisher popularized the phenomenon in his book “Santa Rally: How to Make Money with Santa Claus.” Hence, the idea behind it has some genuine experience backing it.

There are countless ways you can take advantage of the Santa rally, but there is simply no way that this strategy is for everybody. Here are just a few quick examples of how you could benefit from the December holiday season.

  • Toy stocks on Santa rally. Since children love gifts and want to make their parents happy, toymakers tend to do exceptionally well during December. Hasbro Inc (NASDAQ: HAS), Mattel Inc (NASDAQ: MAT), Jakks Pacific Inc (NASDAQ: AKK), and Spin Master Corp (TORONTO: TOY) are only a few examples of companies that see significant increases in revenue and earnings during the holiday season.
  • Christmas racing. Packaged consumer goods such as food, beverages, and toiletries tend to sell better during December than at other times throughout the year. However, this holds especially true for alcohol products. Many investors like Molson Coors Beverage Company (NYSE: TAP), Brown-Forman Corp (NYSE: BF.B), and Constellation Brands Inc (NYSE: STZ) report their highest sales figures and EPS growth in Q4 every year because of this exact fact.

The most straightforward trading strategy would be to go long on companies that exhibit these seasonal trends. It does not get much easier than that, does it? Even though this strategy does not require any previous investment or trading experience, you still have to be careful. After all, the Santa rally only takes place over a concise period of time. Therefore, there is no reason not to take full advantage of this trend throughout December.

The History of Santa Rally

The first recorded mention of Santa Rallying was in 1866 in Aalborg, Denmark, where St. Nick had to chase away some robbers who had stolen goods from his home on Christmas Eve. Of course, they were being chased by elves who managed to recover all objects before it was too late.

A more festive celebration occurred again in Denmark seven years later when they decided to combine jolly old St. Nick with another ancient Scandinavian custom called “Yule Goat”.

Santa rally has its origins, though, in Finland. While St. Nick was visiting Finnish children every Christmas Eve, the Yule Goat would be wandering around their living room to see if they had behaved during the year. If that goat could spot some other animal inside the house, then it meant that those kids had not behaved well enough and should have tried harder during the year because now they would receive coal as a gift from Father Christmas (Nisse).

Bishop Mikael Agricola started the tradition of the Yule Goats. He cherished old pagan customs so much he decided to create his own “Christianized” version of them using Icelandic tales about elves bringing gifts for children. So instead of having actual goats walking on the roofs of houses, they started using some straw goats instead.

Then, for various reasons (most likely due to the rising fur prices), they stopped making straw goats and started sculpting them out of wood or clay. One even made of bread was baked in 1866. The actual first Santa rallying contest took place two years later when they destroyed all the bad Yule Goats throughout Finland that had been catching children misbehaving all year long. Father Christmas himself came to save them from this bad goat by burning him at stake! From then on, it has become a tradition in Finland to burn “Tonttu” (Santa’s elves) on December 23.

Reasons for Santa Rally

Several theories try to explain the Santa Claus rally, including optimism fueled by the holiday spirit, increased holiday shopping, and the investing behavior of participants in the market for “put” options.

One explanation is that participants in the market for “put” options (which rise in value when stock prices fall) purchase large quantities of put options near year-end because they expect stocks to be higher at year-end than they are now. This would increase demand for put options and thus lower their price. Since puts rise in value when stock prices fall, this would create an opportunity for arbitrage traders who combine stock purchases with option short sales. Other explanations include increased retail activity due to Christmas and investors rebalancing their portfolios before year-end.

The Santa Claus rally has been criticized as an example of data mining in that the supposed empirical relationship is weak and not consistently observed. Other factors could explain this phenomenon, such as tax-loss selling around the year-end.

The Santa Claus rally also takes place due to increased activity by floor traders due to an increase in volatility during the period,. However, several studies indicate that the number of options traded declines during this period while put option writers experience increased trading volume at these times. Studies have also indicated there is no relationship between the amount of short-term price movement and the number of trades or quotes on a given day.

Pros and Cons of Santa Rally

The Santa Claus rally is a robust and three-day stock price increase in the last five days of December (or the first three days in January). Data shows that it has occurred 66 times between 1928 and 2008. Following are the pros and cons of using this phenomenon to make trading decisions.

Pros:

  • Santa Claus rally occurs when market momentum is down near year-end when many investors wish to lock in gains made earlier in the year. These owners may sell holdings they no longer want, generating buying interest from bargain hunters or others who believe prices will continue to rise into the new year. This scenario may be especially true if tax considerations also come into play at month’s end for some investors.
  • Investors tend to take more risk near month’s-end because they have a longer time to recoup their capital.
  • Santa Claus performances tend to occur with strong selling pressure from investors near the month-end. In this scenario, prices tend to rise sharply during the rally period, so you get outsized returns by buying stocks with upward momentum at these price levels.
  • If large traders have been net sellers of stock through the year, they may skew bullish toward year-end and provide a significant boost for a small number of securities trading near 52-week highs or lows. This could be true if the economy is bad and GDP projections are downgraded just before year-end.

Cons:

  • Recent low volume typically accompanies Santa Claus rallies, making it difficult to sell short or to buy stock with borrowed funds near year-end. In addition, large point swings may be harder to come by during these periods.
  • History shows that Santa Claus rallies have been weaker in recent years because of lower market volatility and shorter trading days due to Christmas being on a Friday. As a result, it may be more difficult to play Santa Claus patterns successfully now than was the case 20 years ago when the market was more volatile and had longer trading sessions before year-end.

Conclusion

While there are numerous explanations for the Santa Claus rally, the most likely reason is a combination of tax considerations, institutional investors taking a vacation, and retail investors being more bullish. Whatever the cause is, this phenomenon has been observed in markets worldwide for many years and typically results in a sustained increase in stock prices. So if you’re looking to get a jump on your investments for the new year, it might be time to get in touch with Santa.

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FAQ

What is Santa Claus rally?

Santa Claus rally is a phenomenon that involves picking specific stocks set to get a seasonal lift from Christmas shopping trends. The hope is that these companies will get an extra boost driven by consumers spending money on gifts and holiday shopping activities.

What are the reasons of Santa rally?

Many consider the Santa Claus rally results from people buying stocks in anticipation of the rise in stock prices during January, otherwise known as the January effect.

When did the first Santa rally take place?

The Santa Claus rally was first recorded by Yale Hirsch in his “Stock Trader’s Almanac” in 1972.

What are the pros of Santa rally?

Firstly, the Santa rally is a very effective and proven way to make money. Secondly, it works during both bull and bear markets. Trading during the Santa rally is very simple: buy at support, sell at resistance line. Finally, you can make money even without your direct participation.

What are the cons of Santa rally?

Very few investors participate in the Santa rally, as it is difficult to exit the market after investing. If the curve is upward, the profit margin will be thin. Thus, if many investors join in late, they may not earn much. Besides, it is difficult to find stocks that will follow the Santa rally every year, so one must watch the market conditions before investing. An investor cannot invest big sums of money because many stocks will either not participate in the Santa rally or follow the trend only in the last few days. Finally, no long-term benefits can be obtained by following the Santa rally. The profits in this method are very temporary and thus cannot be relied upon for a more extended period.

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