MARKETS SPECTATOR: Almost never naughty

Historically, markets nearly always head up during the festive season. Barring any fiscal cliff calamity, there's no reason to expect Santa won't deliver again.

The Australian market is now in its strongest period of the year. In fact, if you bought the market on December 13 and held it through to the fifth trading day in January, you would have been profitable 26 out of the last 32 years. That’s a strike rate of 81 per cent, which are incredible odds for a trade.

On top of that, the average gain over the entire 32-year period was 2.93 per cent. And 30 per cent of the time, the market has returned a staggering 6 per cent over the 15-trading day period. Pretty damn good odds if you ask me.

The strength is not just domestic, either. The S&P 500 is particularly strong during this period of the year, too. Over the last 18 years, the S&P 500 has been up in 14 of them, with an average gain of 3.42 per cent. More recently, the last four years has seen the S&P 500 rally an average of 4.65 per cent.

Behind this incredible consistency of gains, are some genuine reasons that combine to explain a large amount of the market’s bullishness.

– Markets locally and internationally are very thin at this time of year, meaning it’s very easy for the Australian market to move 30 to 40 points on very low volumes.

– Most trading businesses closed their books at the end of last week due to the lack of volume in the market. This just compounds the problem further and makes it even easier for the market to move significantly on lower values.

– Senior fund managers take holidays during this period, leaving the juniors to manage the portfolio. The juniors, however, are left with a strict list of instructions which basically includes no selling of portfolio holdings, especially not the bosses' favourite stocks. Thus, there is very little in the way of real selling over this period.

– Between December 10 and 21, approximately $8 billion in dividends will be paid. If you assume a 30 per cent DRP (dividend reinvestment plan), then that means there will be roughly $2.43 invested back into the market. On top of this, there is approximately $2 billion worth of fund inflows from monthly superannuation payments that also has to find its way into the market.

– With the juniors in charge, the huge amount of superannuation money either finds its way into the big, blue chip names or into SPI futures, which basically track the entire market.

– However, the buying of SPI futures contracts creates another bullish situation that ignites the market.

– As more money flows into SPI futures, they start to trade at a premium over the market. This causes an arbitrage opportunity for the index arbitrage traders, who incidentally tend to work over the holiday period. To take advantage of the situation, they buy physical stock and sell SPI futures. This causes the market to soar, for no apparent reason.

So, the above points combine to make a pretty strong case for being bullish over this period.

But what about the fiscal cliff? In my view, the market already knows about it. It’s in the price. If the market was really worried then it would not have rallied in recent weeks.

Now, that’s not to say that the market couldn’t go lower. I think we would need some sort of left field catalyst that no one has mentioned or factored in to spur meaningful selling.

Short term trading is all about stacking the odds in your favour. An 81 per cent chance of making money over the next 15 or so trading days is good enough for me to remain long over the break.