Is the Santa Rally Cancelled?

After a month and a half of gains, have the markets peaked or could there be another leg higher in-store through the holidays?

The rhyming of history

Stocks tend to rally towards the end of the year on increased risk appetite before and around Christmas. On average, the S&P 500 rose 1.5% through December over the last few decades. But that's an average; some years, the market significantly underperformed, such as in 2018. At that time, markets were worried that the Fed could hike too fast and curtail better economic growth.

The Fed has been on the most aggressive rate hiking path since the early 80's, and stocks have been trending downward for most of the year. Large-cap, blue-chip stocks have generally outperformed over the last couple of months, with the Dow more than recovering to summer highs. Meanwhile, the Nasdaq, with its high weighting in tech stocks, has remained essentially flat over the last couple of months.

Where to now?

The question of what will happen for the rest of the month depends on whether economic data or geopolitics outweigh a generally weak market buoyancy. Markets trend higher around the holidays as liquidity drops, with larger trades away from their desks and more optimism among traders. But will traders be bullish this time after seeing their purchasing power eroded by higher inflation? Another explanation for the year-end rally is book balancing, as fund managers try to get their portfolios to look good by the end of the year. That could widen the gap between better-performing value stocks and under-pressure tech stocks.

The remaining challenge before markets can get into holiday mode is the Fed on December 14. Although a majority of economists are betting on a 50bps hike, there is still a quarter who disagree. The Fed is in its blackout period, so there will be little guidance on what to expect. And the day before the rate decision is announced, US CPI figures come out, which will be pivotal for what the Fed ultimately decides to do.

Rising wedge completed

The S&P 500 has printed a rising wedge after spiralling upward for October and November. Price recently slid below the intersecting lower line and the 4k handle, but it could be a pullback before the trend continues in its predominant direction. 3700 is a significant support to keep an eye on if 3915 and 3905 succumbing to bearish pressure. In between, the swing high of 3770 could offer some support too. But losing the stronghold will open the door to 3490 and perhaps lower. On the flip side, reclaiming the 4000 round resistance could see 4100 revisited. If bulls recapture 4200, the high of 4325 will return on their radar, provided the 4040 swing fails to form a right shoulder of a potential h&s pattern.

Key takeaways

Whether the markets have peaked, cancelling this year's Santa rally, depends on whether economic data or geopolitics will outweigh market buoyancy, as traders may be less bullish due to higher inflation. A year-end rally from book rebalancing could lead to better-performing value stocks outperforming under-pressure tech stocks. However, the biggest challenge before markets can get into holiday mode is the Federal Reserve's rate decision on December 14, which will be influenced by US CPI the day before.