The Santa Rally and What it Might Mean for Investors in 2023

There’s always a lot of chatter in the period between Christmas and New Year about the much-vaunted Santa Rally within equity markets, but what is it exactly, and what does it mean for investors?

Historical data shows that, on average, stock markets tend to rally during the last five trading days of the year and the first two of January. Fidelity International^[1] analysis of the FTSE 100 shows that shares have risen in December in 25 of the last 30 years, and that this seems to be more than just chance – even if the overall rising trend of the market during this period points to more than a 50% chance of a profit in any given month.

In the United States, we can see from 72 years of data on the S&P 500 and its predecessor index, the S&P 90, that just 15 or 16 holiday seasons have failed to produce a rally. Of those, seven were followed by first-quarter losses in the index, according to Dow Jones market data. It’s also observed that the S&P index has averaged a 1.3% increase for these seven trading days since 1969^[2], which is better than the average performance for nine out of 12 months of the year since 1950. In summary, if the Santa Rally occurs, there is a greater likelihood of positive stock market returns in the coming year and, likewise, the absence of a rally into the new year may preclude weaker returns.

Why might a Santa Rally happen?

There are widely thought to be three main reasons behind the Santa Rally. Firstly, there are lower volumes of institutional trading over the holiday period. The markets are therefore thinly traded, mainly by retail investors, who tend to be more bullish and which can result in outsized moves in asset prices. Secondly, some point to an extension of the ‘holiday effect’ and believe that the rally reflects the positive energy and optimism brought to markets at this time of year. Thirdly, it’s been suggested that the rally is a self-fulfilling prophecy, and that recognising and anticipating this phenomenon makes it more likely to happen. However, making sound investment decisions based on old adages and relying on behavioural patterns is not foolproof, especially in the long term. It may be that such a move higher in portfolio valuations could act as a catalyst for investors to consider realising some equity gains into tax year end, with a view to improving the diversification of their portfolio.

Economic data and the gold price

The US Federal Reserve released its latest interest rates decision in mid-December, deciding to increase the key policy rate by 0.5%. This represented a deceleration in rate increases from the 0.75 percentage point moves seen at the previous four meetings and took the Fed funds rate to a target of four percent. The rate rise decision came off the back of an easing of inflation pressures in the US, as demonstrated in the October and November CPI* data releases. The gold price has remained range bound versus the dollar in the wake of the news.

The Bank of England followed suit with a similar 0.5% rise in interest rates in December. However, it was a split decision, with governor Andrew Bailey remarking that UK housing markets continued to weaken and that broader inflation pressures are easing faster than anticipated. The data release saw sterling depreciate against major trading currencies; the sterling gold price is now hovering around the key £1,500 level and appears poised to break higher.

What’s in Store for Investors in 2023?

In a December survey conducted by Bank of America^[3], it was found that 68% of fund managers believe the global economy will experience a recession in the coming 12 months. The survey response improved on the previous month’s reading, following steps towards the reopening of China’s economy with changes to zero-Covid restrictions.

The Office for National Statistics recorded that UK GDP is estimated to have fallen by 0.3% in the quarter from July to September 2022, and this was a slight downward revision from its preliminary reading. The final quarter GDP reading to December 2022 will be released in early February 2023, and it’s widely expected that this will show further contraction in the UK economy, thus exhibiting the conditions of a ‘technical recession’.

Whether or not a Santa Rally transpires, investors will perhaps be looking to rotate into safe havens, such as gold, in 2023, to protect wealth in these uncertain times. The depth and liquidity in the gold market can also provide assurance in the ability to realise investments and trade at fair market prices should a market dislocation occur, and where orderly trading (and fair pricing) in equity markets often becomes troublesome. An example of this occurred in the autumn, when UK gilt yields rose sharply in the wake of the mini budget. As a result, liquidity dried up and bond prices plunged, forcing the Bank of England to act to stabilise the gilt market.

Investment diversification is key in optimising the risk-return profile of any given portfolio. The World Gold Council suggests an allocation of between four and 15% in gold^[4] in order to benefit most from the risk-dampening qualities that an allocation to the yellow metal brings. Our Gold for Pensions offering has seen a trend in new clients looking for an alternative in view of recent market volatility and potential further disruption in 2023, whilst changes to Capital Gains Tax announced by the Chancellor in the Autumn Statement further improve the case for gold bullion for investors.

References: 

^[1] Market news today - Santa Rally (fidelity.co.uk)

^[2] Keep your eyes on these key metrics in 2023 | Financial News (lse.co.uk)

^[3] Fund managers say they’re feeling festive. Here’s what’s under the tree (ii.co.uk)

^[4] The relevance of gold as a strategic asset 2022 | World Gold Council

* Consumer Price Inflation – a measure of the annual percentage change in the general level of prices for the average consumer.

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