Now that December is here, I’ve been reading about the ‘Santa Claus rally’ in the stock market. Is this a real thing and, if so, does it make sense to increase my exposure to stocks now to take advantage of the trend?
Ever since stock markets were invented, investors have been bending over backward to identify cyclical patterns in the data to help them profit. Some strategies have an air of plausibility, such as “sell in May and go away” and the “presidential election cycle theory.” Others, such as the “Super Bowl indicator,” are just plain silly.
I treat all of these theories with skepticism, and you should, too.
Here’s why: The stock market generates vast amounts of data. If you slice and dice the numbers long enough, you are inevitably going to uncover “trends” that appear compelling – even if they are simply the product of randomness. For example, did you know that, in the decade from 1990 through 1999, the S&P/TSX Composite Index posted four annual losses, and each one happened during an even year? It’s uncanny!
Consider another example. If you flip a quarter 20 times a day for a month, inevitably one day (or days) of the week will produce more heads than any other day, and a different day will produce the greatest number of tails. Does that mean those same days will have higher probabilities of heads and tails, respectively, if you perform the experiment again? Of course not. Each coin toss in an independent event with 50-50 odds of either outcome.
In the two examples above, the randomness is obvious. Yet when people find patterns in long-term market data, they often assume – incorrectly – that something other than chance is at work. If the data appear compelling enough, they may even invent a narrative to explain why the market behaves – and presumably will continue to behave – in certain ways. The narrative is then implanted into the collective consciousness with a memorable slogan or catchphrase.
The “Santa Claus rally” is a classic example. The narrative in this case is that stocks tend to do well in December because investors are in a cheerful mood as the holidays approach. People also have more money to invest, thanks to year-end bonuses. Another contributing factor, presumably, is that by the time December rolls around, investors have finished selling stocks for tax-loss purposes and are looking to redeploy their cash. For all of these reasons, the market tends to rise in December.
Or so the theory goes. But there is one glaring problem with the Santa Claus rally theory: December isn’t actually a particularly good month for stocks. Lately, it’s actually been pretty bad.
You wouldn’t know that by looking at December’s long-term returns. From 1950 through 2022, the S&P 500 produced an average gain in December of 1.31 per cent, excluding dividends. That was the third-best performance of all months, behind November and April, which gained 1.54 per cent and 1.45 per cent, respectively, on average. (I obtained the data from http://moneychimp.com/features/monthly_returns.htm). So, you can see how the Santa Claus rally idea got started.
But if we shorten the time span, Santa’s magical market powers start to disappear.
For the 20 years from 2003 through 2022, December produced an average gain of just 0.68 per cent. That placed it sixth on the list and well behind the best month, April, which had an average advance of 2.29 per cent.
And if we examine just the past 10 years, Santa really dropped the ball. December’s average return on the S&P 500 over the past decade was negative 0.54 per cent. Only September, with an average drop of 1.5 per cent, was worse. Like Santa himself, the Santa Claus rally is, sadly, just a myth.
So, no, I wouldn’t load up on stocks in the hope of a December rally, although I would be thrilled if it happens. Nor would I “sell in May” or place bets depending on who wins the 2024 U.S. presidential election. If you make trades based on some half-baked historical theory, the only guarantee is that you’ll end up paying more commissions and taxes. What’s more, you could be sitting on the sidelines when the market rises.
There are no shortcuts to building wealth in the stock market. For most investors, the best strategy is to build a diversified portfolio of high-quality companies or exchange-traded funds, plus some exposure to fixed-income investments, and to let time and compounding do the heavy lifting.
I even came up with a sexy slogan for this approach: “Stay the course, and avoid remorse.”
Maybe it will catch on.
E-mail your questions to jheinzl@globeandmail.com. I’m not able to respond personally to e-mails but I choose certain questions to answer in my column.
John Heinzl