Christmas Day is one of the federal holidays in the US. But how does it affect the US financial markets? Is there an end-of-year effect in stocks? Is there a Santa Claus rally in stocks? Can we develop trading strategies for this holiday season?
Our backtests reveal that the stock market shows significantly better performance in the last days of the year and the first days of the new year. Both the end-of-year rally and the Santa Claus rally are no myths.
The stock market performs much better during the Christmas holiday season than during any random period the rest of the year. Let’s go on to backtest this holiday period:
The Christmas holiday
From about 1840, celebrating Christmas became more widespread around the world, but it wasn’t until 1870 that December 25 was declared a federal holiday in the United States. Since then, Christmas Day has always been a federal holiday in the US.
The day is often celebrated with festivities ranging from fireworks and concerts to more casual family gatherings and exchanging gifts.
Is the day before Christmas or after Christmas a trading day?
Christmas Day is not a trading day for all US markets, but the day before and after can be trading days, depending on whether they fall on a weekend. The day before or after Christmas is usually a trading day if Christmas Day falls on a weekday.
However, on the trading day preceding Christmas Day, the bond market closes earlier than usual and closes at 2 PM.
What happens if Christmas is on a weekend?
If Christmas Day is on a weekend, the Christmas federal holiday will be observed on the preceding Friday (if Christmas Day is on a Saturday) or the following Monday (if Christmas Day is on a Sunday).
The Santa Claus rally in stocks
In the rest of the article, we look at the end of the year rally in stocks, sometimes referred to as the Santa Claus Rally, turn of the year effect, or simply the Christmas effect. It turns out that the second half of December is a very good month for stocks!
The end-of-year rally (Santa Claus rally) in stocks – strategy backtest 1
The strategy is pretty simple and we make the following trading rules:
The last four days of December and the first three days of January are often referred to as the end-of-year rally (effect).
Let’s test if the hypothesis is true.
How has the year-end rally performed? Below is the equity chart of the S&P 500 from 1960 until January 2020 (100 000 invested in 1960 and compounded/reinvested):
The strategy has produced 1.12% per trade, the win ratio is 68%, the average winner is 2.47%, the average loser is -1.88%, the profit factor is 2.66, and max drawdown is 9.2%.
In other words, it clearly exists a year-end rally! This really is the most wonderful time of the year. The turn of the year effect is a great way to end the year and start the new year. The returns are substantially higher than any random seven-day period:
The backtest shows a CAGR of 1.07% while only being invested 2.7% of the time.
The performance was recently weak with three losing years in a row: 2013/14, 2014/15, and 2015/16.
The end-of-year rally (Santa Claus rally) in stocks – strategy backtest 2
Let’s test another twist to the hypothesis and increase the holding period:
- We enter at the close on the Friday prior to the options expiration week in December and sell at the close of the third trading day of the new year.
This returns the following equity curve:
The strategy has produced 1.79% per trade, the win ratio is 75%, the average winner is 2.98%, the average loser is -1.9%, the profit factor is 4.7, and max drawdown is 11.7%.
This backtest period includes Christmas day, and we can safely say there is a Santa Claus rally in the stock market.
The end-of-year rally (Santa Claus rally) in stocks – strategy backtest 3
Let’s make a twist where we go long at the close of the first trading day after the 20th of December and sell on the first trading day of the new year. This backtest is just a small change compared to Santa Claus rally backtest number two.
The backtest in Amibroker yields this equity curve since 1960:
There are 60 trades, the average gain is 1%, the win ratio is 67%, the profit factor is 4.8, and the max drawdown is 2.9%. These are pretty solid results!
Why does the year-end rally happen? Why is there a Santa Claus rally?
One reason could be an injection of funds into the market. Mutual funds need to rebalance to account for accounting and tax issues, and at the same time, there is very little macro news during this time of year. When there is a vacuum of news there is less to worry about and prices tend to go up.
However, we also have to factor in that the turn of the month has, in general, shown a very positive effect.
Moreover, most people are on holiday and enjoying their time and see no clouds on the horizon. Thus, there are few reasons to sell stocks unless you get a higher price.
Amibroker code for the end-of-year rally and Santa Claus rally:
If you’d like the Amibroker code for the strategy, please order the logic and code for all our 60+ free trading strategies on this website:
A somewhat similar seasonality exists on other exchanges:
- The December seasonality on Oslo Stock Exchange
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The Santa Claus Rally In Emerging Markets (End Of Year Rally)
- The Santa Claus Rally in NIFTY
- The Santa Claus Rally in DAX 40 and Euro Stoxx 50 (End of year rally)
Holiday effects in the stock market
We have covered all the US stock market holiday effects in trading. To sum up, we have the following other holiday effects in the US markets:
- The Martin Luther King Jr. Day holiday effect in trading (Backtest and strategy)
- George Washington Day/President’s Day holiday effect in trading (Backtest and strategy)
- The Easter Holiday effect in trading (Holy Thursday – best day of the year for stocks? Backtests and strategies)
- The Memorial Day Holiday Effect In Trading (Backtest And Strategy)
- The 4th of July Holiday Effect In Trading (Independence Day Effect – Backtest and strategy)
- The Labor Day Holiday Effect In Trading (Backtest And Strategy)
- The Thanksgiving and Black Friday effect in the stock market (Backtests and strategies)
The End Of The Year Rally In Stocks (Santa Claus Rally/Effect) – conclusions
Most holiday periods show positive performance, but none is better than the end of the year or during Santa Claus. The end-of-year effect and Santa Claus Rally in the S&P 500 is no myth!
FAQ:
– How does Christmas Day affect the US financial markets?
Christmas Day is not a trading day for all US markets, but the days before and after can be, depending on the day Christmas falls on.
– What is the Santa Claus rally in stocks?
The Santa Claus rally refers to the end-of-year rally in stocks, occurring in the last days of December and the first days of January. It is sometimes called the turn of the year effect or Christmas effect.
– What is the turn of the year effect in stocks?
The turn of the year effect, also known as the Santa Claus Rally, is a phenomenon where the stock market tends to perform well in the last days of the year and the first days of the new year.
