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Don Dawson

Can the Stock Market Offer You Cash for Christmas? Absolutely!

Let's face it: With inflation still above the Federal Reserve's 2% target, everybody could use a little more cash as the holiday season approaches. As traders scramble to find opportunities in this extended bull market, they must look no further than the S&P 500 index during December. 

Here's why…..   

Money tends to flow into the stock market during the fourth quarter due to a combination of factors, including historical seasonal trends, increased consumer spending during the holiday season, investor optimism heading into the new year, and a phenomenon called the "Santa Claus Rally" where stocks often rise in the last week of December, leading to higher average returns for the quarter compared to other periods. But traders don't have to wait until the end of December to reap the benefits of this seasonally strong period of the year. 

Seasonal patterns:   

Historically, the fourth quarter has shown the best average returns, creating a perception that this period is favorable for stock investments.

Holiday spending: 

Increased consumer spending during the holiday season can positively impact companies' earnings, boosting stock prices. The markets are forward-looking mechanisms and begin pricing earnings earlier than the release dates. 

New Year optimism: 

Investors often exhibit a positive outlook towards the new year, leading to increased buying activity. With new leadership entering the White House in 2025, the country and the markets seek brighter days. Additionally, lower interest rates are expected in the coming year, which should help support businesses and home buyers. (ZN)  (ZQ)

"Santa Claus Rally":   

This term refers to a tendency for stocks to rise in the last trading days of December, further contributing to the positive performance of the fourth quarter. Naughty or nice, Santa Claus will look out for you this year as his 401K has double-digit returns again. 

The market has performed decently for the year coming into the fourth quarter. Traditionally, when the market experiences strong momentum for the first three quarters, the fourth quarter has a strong finish to the year. 

Actionable Seasonality 

Source: Moore Research Center Inc (MRCI) 

The beginning of this article explained the strength of the stock market that we may experience in the 4th quarter, but here is some historical data to validate the strong seasonal bias. 

MRCI researched 15 years of the S&P 500 cash index and found a seasonal pattern (black line) to assist in our analysis of a strong December for the market. I've identified the historical four quarters of the year with shaded green boxes. 

The first quarter shows new money coming into the market, as seen by the quarter's close being higher than the beginning. It is also the second-strongest quarter of the year. 

The second quarter has some volatility, but by the end of the quarter, prices are close to where the quarter opened, perhaps consolidating the prior fourth and first quarter increases. Also, the market saying, "Sell in May and come back after Labor Day," likely influences the seasonal pattern.   

The third quarter has significant moves but closes near the quarter opening again. The third quarter is also part of the summer season doldrums, explaining the lack of conviction for closing significantly higher or lower than the quarter opening. 

The fourth quarter is the one to watch. The scale on the chart's left side shows the yearly range percentage. The fourth quarter can make up as much as 50% of the annual range. 

Source: Barchart 

The y-t-d daily S&P 500 March futures contract details how each quarter has done to the date of this article. Notice how the first quarter was approximately 10% higher. The second and third quarters were positive but less aggressive than the first quarter returns. Looking at the current fourth quarter, we are just beginning December, and the return thus far has been about 5%. Part of my enthusiasm for higher prices into the year's end is the current quarter still needs another 5% or more growth to complete the traditional 15-year seasonal pattern. 

The upward trend in prices this year has been robust. While a trend can change at any time, it's usually not prudent to predict when it will. The strong trend and the earlier supportive comments may give traders a holiday season to be grateful for. 

MRCI has also found an optimal seasonal window that corresponds with this analysis. During their research, these optimal seasonal windows are found by historical consistent moves and as little drawdown as possible while in the trade. 

Source: MRCI 

The 15-year seasonal pattern (blue line) shows that early December has shown some weakness into the second week of the month before the next significant up move begins. 

Seasonally, the March S&P 500 futures contract closed higher on January 12 than on December 17 for 14 of the past 15 years, a 93% occurrence. These optimal seasonal windows are not cast in stone, and the occurrence may come a few days before or after the mentioned dates. Allowing traders to enter near the beginning of the optimal window and exit on the last day. Or, they may trade in and out of long positions during this window.   

Source: MRCI 

To make this seasonal trade even better, 5 of the past 15 years never had a daily closing drawdown. A 93% occurrence rate and a 33% chance of not having a daily closing drawdown are worth a trader's attention. 

As a crucial reminder, while seasonal patterns can provide valuable insights, they should not be the sole basis for trading decisions. Traders must consider other technical and fundamental indicators, risk management strategies, and market conditions to make well-informed and balanced trading choices.     

Markets to participate in this opportunity 

Equity traders may use the exchange-traded fund (ETF) SPY to participate in this opportunity. At the same time, futures traders could use the mini-contract ES or the micro-contract ET. There are many more vehicles to trade the S&P 500, but these are among the more popular. Also, the S&P 500 is the most liquid index market to trade—allowing for safer executions of your trades.

In closing…   

The fourth quarter's historical strength is a compelling reminder of the opportunities this period presents for traders. The seasonal trends, bolstered by increased consumer activity, investor optimism, and the "Santa Claus Rally," highlight why December is crucial for stock market participants. With the S&P 500 poised for potentially significant gains, traders may capitalize on the upward momentum historically marked this time of year. Whether through ETFs like SPY or futures contracts like ES and ET, there are numerous vehicles to position for the expected market strength.

However, it's essential to approach this period with a balanced strategy. While the data supports strong fourth-quarter performance, traders should combine seasonal patterns with sound risk management and comprehensively analyze technical and fundamental indicators. The market's liquidity and historical trends make this a prime time for action, but prudence is key. As you prepare your strategies, remember that a well-informed approach can turn the seasonal market dynamics of the fourth quarter into a holiday gift of strong returns.

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