Will the Santa Rally in the market continue? Here's what investors should do if it does

Domestic equity benchmarks the Sensex and the Nifty clocked healthy gains in the first two sessions of the last week of 2022.

The Sensex jumped 1.20 percent on December 26 and 0.60 percent on December 27. As there are no fresh triggers for the market, no major upside or downside is expected in the remaining three sessions of the year. In a nutshell, there could be no more 'Santa Rally' for the market this year.

In fact, the Sensex and the Nifty are set to end the year with low single-digit gains. The Sensex and the Nifty are up over 4 percent each in 2022 while the BSE Midcap index is a percent higher at this juncture. The BSE Smallcap index has suffered a loss of over 3 percent.

Read: Key learnings from stock market in 2022

Santa Rally, alas!

Such a performance of the market this year is on the expected lines.

Since the beginning of the year, the market has been dealing with strong headwinds. Russia launched an assault on Ukraine on February 24 which still continues. The Russia-Ukraine war triggered a sharp rise in crude oil and other commodity prices due to demand-supply disruptions.

This sharp rise in commodity prices shot up inflation to multi-year high levels in most countries of the world. At a time, when the world was yet to fully recover from the Covid shock and economic growth was trying to find ground, central banks had to rush to monetary tightening to tame soaring inflation. Since monetary tightening slows down the pace of economic growth, the risk of a recession in the US and Europe grew stronger.

The world economy is interlinked. Bad macroeconomic situations of the world's top economies are certain to have spillover effects on emerging market economies also. Economic indicators are key triggers for stock markets. Signs of stress on the economy keep the stock market subdued.

Santa Rally- is it for real?

Santa Rally or Santa Claus Rally is a popular term among traders and investors of the markets in the West. Santa Rally means healthy gains in the stock market at the end of December.

The term Santa Claus Rally was created by Yale Hirsch and is defined by the last five trading days of the year plus the first two of the new year.

It is seen as an indicator of the market's mood for the coming year. As Yale Hirsch said, "If Santa Claus should fail to call, bears may come to Broad and Wall."

What triggers Santa Rally cannot be defined precisely but it is popularly believed that the US markets witness strong buying by the end of the year as investors rush to take advantage of tax benefits. The US follows the calendar year as the tax year also.

Another reason could be a general feeling of optimism during the holiday season. The market tends to see a longer and healthier phase of a rally if the economic outlook is positive.

Let's look at the history

Sensex has ended in the green nine times in the last 15 years in December. Even though there is a majority of gains, it shows how the Santa Rally considers market variables.

In 2020, Sensex jumped over 8 percent in December, hoping that Covid would end soon and the economy was ready to bounce back. It was also the time when the world markets were awash with abundant liquidity.

As per brokerage firm Samco Securities, Nifty50 ended on a positive note in December for 80 percent of the times in the last 20 years and December has the highest average monthly returns of 3.2 percent.

The road ahead for the market

There are five major factors that will influence the mood of the market in 2023.

1. Inflation: The biggest worry of investors in 2022 will continue to be the top trigger for the market at least till the first half of 2023. Inflation not only erodes the purchasing power of consumers and hits the economy, it also triggers rate hikes which hit the economy and the market.

2. The pace and period of rate hikes: The market is expecting a few more rate hikes in 2023 but if rate hikes continue aggressively for a longer than expected period, the markets will come under strong pressure.

Read: Will a hawkish Fed make 20k a distant dream for Nifty?

3. Geopolitical tensions: The Ukraine war is yet to end and if there is fresh geopolitical tension (for example, between the US and China due to the Taiwan issue), it will be a severe blow to the global markets.

4. Recession: The risk of a recession in the US and Europe will keep market sentiment sombre. If there is a prolonged phase of a recession in the West, it will weigh on emerging markets, including India.

5. Covid situation: The world is yet to eradicate Covid. Even though the risk has been fading with time, reports of an outbreak can give jitters to markets.

Be alert, retail investors!

A strong Santa Rally can lift even weaker stocks which can lure retail investors to bet on them. Retail investors should remember that quality is the only parameter they should never compromise on.

This is a time of extraordinary uncertainty on the global front. The best move would be to bet on domestic-centric themes.

Sanjeev Hota, Head of Research, Sharekhan by BNP Paribas, said the key investment theme for 2023 can be summed up as 3Cs - credit, capex and consumption.

Hota is positive on banks and financials, engineering, infrastructure, real estate and building materials and consumer discretionary companies including autos and auto ancillary companies.

Pick up stocks of companies with less debt, strong management and healthy growth outlook. Carefully study their financial statement and at the end consider the valuation of the stocks too.

Santa Rally is a temporary phenomenon. There are a lot of variables that will decide whether the rally will sustain or not. In times of uncertainty, investing only in fundamentally strong stocks should be the thumb rule.

Disclaimer: The views and recommendations given in this article are those of individual analysts and broking firms. These do not represent the views of MintGenie.