Wall Street Hopes Sleigh Hasn't Left Already

Did Santa Claus leave Wall Street early this year? With the major averages up sharply from their September lows, investors have already received some sugarplums. Still, the visit might not be over just yet.

According to the Stock Trader's Almanac, stocks typically rally in the last five days of the year and the first two in January, reaping average gains of 1.5% in the past 50 years. In the 38 years prior to 1990, stocks fell during this period just seven times and produced subpar gains (0.8% or less) only six times. Still, the record hasn't been as good during the past decade, with the period showing losses three times and subpar gains twice.

Christmas is typically bullish for the stock market because it is a time when year-end dividends and bonuses are paid out and often put to work in the markets. Most of the year-end tax selling has also been completed by the holidays, and investors are thought to be in a more optimistic frame of mind.

"There's a holiday spirit," noted Jeff Hirsch, analyst at the Hirsch Organization.

Blue Spruce

Still, with the economy in recession and the country at war, analysts say the mood on Wall Street could be more subdued this year. In addition, the stock market has already seen huge gains over the past two months.

"We've come a long way and valuations are getting very stretched," noted Larry Rice, chief investment officer at Josephthal. "The longer this [market] goes up without any meaningful correction, the tougher it's going to be down the road."

Although the S&P 500 fell 3% last week, it has recovered 1.6% so far this week and is up 21% from its Sept. 21 lows. The Nasdaq, meanwhile, is up a whopping 43% from its nadir.

Dave Hunter, chief market strategist at Kelly & Christensen, said that although seasonality may have played a role in the past, it is unlikely to have the same impact this year.

"Stocks are so overbought, the rally may be running out of gas," he said. "Strategists and economists are way too optimistic about when the economy is going to turn."

Hunter said the economy will be even worse in 2002 than it has been this year, and he believes the stock averages will make new lows before truly recovering.

Run, Run Rudolph

James Weiss, deputy chief investment officer at State Street Research, is more optimistic.

"We've had a good rally already, but it's important to bear in mind that we're only marginally ahead of where we were on Sept. 10. Seen in that context, I wouldn't say we've seen the year-end rally yet," he noted.

Weiss said many portfolio managers have seen brutal losses over the past 18 months and may be eager to chase strength. Analysts also point out that recent economic data have been less grim than expected.

Housing starts rose 8.2% in November to a 1.645 million pace, above the anticipated 1.55 million rate. In addition, the latest weekly jobless claims number fell 86,000 to 394,000, much lower than the 475,000 level anticipated by economists.

Industrial production fell by just 0.3% in November, compared with the expected drop of 0.6%, and business inventories fell a record 1.4% in October as excesses continued to be pared down.

Stocking Stuffer The seven-day Santa effect

Source:Stock Traders Almanac

Holiday Shopping

Art Hogan, chief market strategist at Jefferies, said spirits remain high on Wall Street for another reason, too.

"The fact that you're seeing so much M&A activity this close to end of year is a sign people are confident about the market," he said.

This week, Amgen (AMGN - Cramer's Take - Stockpickr) agreed to acquire rival Immunex (IMNX - Cramer's Take - Stockpickr) for cash and stock worth about $30 a share, or $16 billion. Meanwhile, Vivendi Universal (V - Cramer's Take - Stockpickr) announced plans to acquire the entertainment assets of USA Networks (USAI - Cramer's Take - Stockpickr), and Cendant (CD - Cramer's Take - Stockpickr) agreed to acquire vacation time-share seller Equivest Finance(EQUI - Cramer's Take - Stockpickr).

Robert Robbins, chief investment strategist at SunTrust Robinson Humphrey, is expecting the market to rally irrespective of seasonal trends.

"The market has a remarkable tendency to rally every single month from roughly the midpoint of a recession to three months after the recession has ended," he said.

If the rally doesn't materialize this Christmas, however, some believe that may be an important harbinger of things to come.

"Santa's failure to show typically preceded bear markets or times when stocks could be purchased at a much lower price later in the year," according to the Stock Trader's Almanac.

Coal

A year-end slump won't necessarily result in lower prices ahead, just as a year-end rally won't guarantee higher prices, but weakness over the Christmas period has historically begotten more weakness. At the end of 1999, for example, the S&P 500 fell 4% and proceeded to lose 10% in 2000.

"When you don't have the rally, that's a bad sign," said Hirsch.

The entire month of January may also serve as an "early warning" system for the rest of the year, analysts say.

Typically, if the S&P 500 falls in January, it is likely it will continue to fall throughout the year, likewise a gain in January would bode well for the market going forward, the Almanac notes.

This year was one of the few exceptions, with the S&P rising 3.4% in January before sliding 13% for the year. Still, the January barometer has had a 90% accuracy rate over the past 50 years, which some analysts say make it a gauge worth watching.