The Christmas Chronicle 2018

Will Santa Bust Out of Jail and Fly?

It’s that time of year again. Every move higher has traders asking if the Santa Rally has started. Every move lower has traders asking if the Santa Rally will come at all. Sometimes this is a matter of a short-term move with little significance in the bigger picture, but this year could be different. As Paul Tudor Jones recently said in an interview with CNBC, markets could go wild in either direction.

We would not disagree. In fact it is apt that the trader famous for rising the last part of the 1987 uptrend and also calling its reversal into a crash seems to be describing our 1987 fractal.

This is what makes this year’s Santa Rally so significant. A strong rally through December would tip the odds in favor of the first scenario shown. This would mean the S&P500 holds support and blows off in line with the April-June 1987 comparison. On the other hand, failure to make a Santa Rally, or a short-lived recovery from support would suggest the S&P500 is following the Aug-Oct 1987 fractal. And we know by now what this would mean…

But what could drive such momentous moves out of the 2018 range? This is something more than just Santa and seasonality. Trade war resolution? The Fed? Well we can speculate, but anticipating a catalyst is usually much harder than anticipating a price move. Fittingly, just like our fractals, the main drivers of this market could still go either way.

A December FOMC meeting and Xmas rate hike have become somewhat of a tradition in recent years. In 2016 and 2017 this had a bullish effect on stocks. However, this year the market seems to have had enough of hikes and the Xmas cheer may be in short supply, especially if Powell hikes and sends a hawkish message. Will the market teach Powell a lesson if it doesn’t get what it wants?

On the other hand, there are a growing number of signs that Powell has already learned his lesson, much like Bernanke did in 2007. The Fed’s recent dovish shift signaled in speeches could be made official and if a pause is signaled it would ignite a large rally. This could be enough to change sentiment and by the time January starts, FOMO could be in full swing again. The main difference between this year and last is that funds are not nearly as long.

Moving away from trade wars and fear of the Fed, there are also consistent seasonal factors driving seasonal strength in December.

  • Tax 
  • Window Dressing
  • Cash Charges (Funds don’t want cash on their books)
  • Feel Good Factor
  • Illiquidity
  • Christmas Cash Flow
  • Self-fulfilling Prophecy

Put these together and it is clear to see December is a seasonally strong time of year.

But this is an average view. Santa does not show up every year. 

Trying to take a universal approach rarely works. Traders trying to front-run or catch the rally can lead to moves higher which fade for new lows and force longs to cover. Those who caught the Thanksgiving rally may be taking profits just as late-comers try to chase what they think is the Santa Rally. This means some Decembers rip straight higher, some never quite get going.

This year the timing of the low and first rally (just after Thanksgiving), and the later dip (early December) have been consistent with the averages, even if the degree of the moves have been far from average. SPX, for example, made a new low in December.

The important takeaway from these fractals is that there is more upside to come. In fact, the Santa Rally, as defined in 1972 by Yale Hirsch in his Stock Trader’s Almanac, refers to a rise in stock prices in the week between the Christmas holiday and the end of the year, a period which is only four or five days.

After all, a Santa Rally shouldn’t really happen until Santa himself shows up… We think he will but out of jail and have his day in court. It won’t be a miracle on either 34th or Wall Street.

Here’s to making the very best.

Good Luck and Good Trading

Ed Matts                        Andrew McElroy
Founder                        Chief Stocks Analyst
Matrix Trade                Matrix Trade