Yes Virginia, There Really is a Santa Claus…Rally.

Gordon Scott |

Perhaps you’ve heard of a thing called the Santa Claus rally. It is a general idea associated with increased retail activity in December. It goes like this: people buy stuff for the holidays, merchants who sell stuff do well, investors jump at the sign of profits, the market rallies.

But does that myth fly?

As thin as the rationale may be, evidence seems to support the notion that the event is not as mythical as its namesake.  Over the past twenty years, the month of December has been bullish 80 percent of the time. If you merely bought the S&P 500 index on Black Friday, or even on Cyber Monday, and took your profits before the New Year, you’d have better than even odds that you’d have an opportunity to profit.

Year

S&P 500

December

Open-to- Close

1991

positive

    1992

positive

1993

positive

1994

positive

1995

positive

1996

negative

1997

positive

1998

positive

1999

positive

2000

positive

2001

positive

2002

negative

2003

positive

2004

positive

2005

negative

2006

positive

2007

negative

2008

positive

2009

positive

2010

positive

But as is the case with any trading system, evidence for an entry signal alone is never enough justification to make sound trades. You need to have an exit strategy as well.

Looking for the exit sign

The data offers some clues about what a winning exit strategy could be. Of the 16 winners, none of them produced moves with more than a 4% drop in price from the original purchase point, and of the losers, the average move against was over 5%.  Among the winners, the average move was also 5%. With this characteristics in mind, the strategy could be simple:  Buy SPY, set a 4% stop loss, take profits at 5% or close at the end of December, whichever comes first.

Now those results may not sound like much to get excited about. Would there be any way to improve your chances?  Quite likely. For example, instead of taking profit at a 5% positive move, you could merely set a trailing stop once the 5% level is hit.  Several of the winning years were followed after by continuing strength into the first quarter of the year, yielding double digit returns on 5 of the 16 winning years.  Additionally, you could hunt for the stocks within the S&P 500 that have performed the best during the month of November, and select a few of those instead of buying the index outright. If the index performs well, it is reasonable to assume these will do better.

However you shop for stock bargains this holiday season, be sure to make a plan, judge your risk appropriately and allow yourself to catch a trend if it comes along. Chances are, you’ll find a gift waiting for you before the season’s over.

DISCLOSURE: The views and opinions expressed in this article are those of the authors, and do not represent the views of equities.com. Readers should not consider statements made by the author as formal recommendations and should consult their financial advisor before making any investment decisions. To read our full disclosure, please go to: http://www.equities.com/disclaimer

Companies

Symbol Name Price Change % Volume
HOMB Home BancShares Inc. 25.84 -0.02 -0.08 542,274

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