I Believe in Santa Claus Rallies, but Not This Year

Are we going to see a Santa Claus rally in the stock market this year, or did Christmas come early? Given the trend of starting the Christmas season earlier each year with Christmas in July sales, people putting up Christmas lights shortly after Halloween and the celebration of Black Friday in November, there is a strong possibility that it already came and went like Santa Claus on Christmas Eve.

According to Investopedia, “A Santa Claus rally is a surge in the price of stocks that often occurs in the week between Christmas and New Year’s Day.” By this definition, there is still time. However, last week’s price action suggests we may have already seen the move.

With the major U.S. stock indexes hovering near all-time highs, one has to wonder how many gifts Santa has in his gift bag. It seems that perhaps this year, Santa started making his deliveries around November when the surprise win by Donald Trump set off a strong rally.

It you separate stocks into naughty and nice then since Trump’s election as president and since the markets began seriously pricing in a Fed rate hike in December, utility stocks have been on the naughty list and financial stocks on the nice list.

Trump’s fiscal spending policy plans have been deemed inflationary by the markets, sending U.S. Treasury yields sharply higher. At the same time, the economy improved enough along with the prospects of higher inflation and firm labor market to convince the Fed to raise rates. Furthermore, in its dot plot projections, it felt economic growth combined with Trump’s plans could warrant as many as three rate hikes in 2017.

Utility stocks fell because they compete with Treasurys. For years, utility stocks were offering the best yields and as we all know, investors want the best yield. So when Treasury yields started to rise, investors dumped the utility stocks and moved into T-Notes and T-Bonds.

Financial stocks rallied for a couple of reasons including the possibility of the relaxing of a few regulations by the Trump administration and the forecast for better earnings because banks can get more revenue from rising mortgage rates and money market investments.

Conditions may have changed last week after the Fed raised its benchmark interest rate 25 basis points and surprised investors by increasing their 2017 interest rate hike projections from two to three.

The Dow had a shot at taking out 20,000, but the rally fizzled. However, the most telling news was that financial stocks decreased for the first time since Trump’s presidential victory. This essentially ended the five-week advance.

While the shares of financial stocks were going down, telephone and utility stocks were going up. Even while the benchmark 10-year Treasury note was climbing 13 basis points to 2.59 percent, utility shares were rising 1.8 percent for the week.

It was only one day, but on Friday, the U.S. Dollar also started to show signs of topping as the two funding currencies – the Japanese Yen and Euro – firmed.

If a short-term trend develops whereby utility stocks rally, financial stocks break and the Yen and Euro appreciate then I think there’s a pretty good chance we’ve seen the top in the stock market for the year. And in this case, there won’t be a Santa Claus rally. And that wouldn’t be too much of a surprise because as they say, “Christmas seems to come earlier every year.”