Investors Eye Santa Rally as S&P 500 Posts Rare December Decline

TLDR

• December 2025 has seen the S&P 500 decline despite the month typically delivering 1.4% average gains for investors.
• AI investment concerns, elevated tech valuations, and potential yen carry trade unwinding are creating headwinds for equities.
• Japan’s recent rate hike has weakened the yen, sparking fears of intervention that could trigger selling like the 6.1% August 2024 drop.
• The traditional Santa Rally window starts Wednesday, covering the last five December trading days and first two January sessions.
• Analysts forecast the S&P 500 reaching 7,600 by late 2026, a 12% increase, with earnings projected to grow 15%.

The U.S. stock market is experiencing an atypical December downturn as the year draws to a close. The S&P 500 has posted losses this month despite December’s reputation as one of the strongest periods for equities.

Historical data shows December typically generates 1.4% gains for the benchmark index. This year’s performance has bucked that trend with the S&P 500 remaining negative even after Thursday and Friday delivered a combined 1.7% rally.

Recent economic data provided some relief to investors last week. November inflation figures came in below expectations while employment data showed continued labor market softening.

These readings boosted expectations for additional Federal Reserve interest rate cuts in 2025. Micron Technology also delivered encouraging news with strong revenue projections for its AI chip business.

What’s Holding Markets Back

Multiple factors are preventing the typical year-end market strength from materializing. Questions about artificial intelligence investment returns continue to plague investor sentiment.

The Magnificent Seven technology stocks show limited progress this month. The group’s index has gained only 0.4% in December while individual names like Nvidia, Microsoft, and Alphabet have declined since Thanksgiving.

Nvidia dropped roughly 20% at one stage in November. An early December recovery quickly faded, raising doubts about momentum in the AI sector’s leading stock.

Valuation concerns for large-cap technology companies remain front and center. Price-to-earnings multiples for major tech names sit well above long-term averages.

The recent government shutdown created gaps in economic data collection. Federal Reserve Chair Powell stated policymakers would discount shutdown-affected numbers, leading markets to question the reliability of November’s inflation report.

International Currency Risks

The Bank of Japan’s decision to raise rates this week added another layer of complexity. Higher Japanese rates have narrowed the yield spread between U.S. Treasuries and Japanese government bonds.

The yen has weakened following the rate move. This decline raises the possibility that Japan’s Ministry of Finance could step in to support the currency.

Currency intervention could force investors to unwind the yen carry trade. This strategy involves borrowing yen at low rates to invest in higher-yielding assets elsewhere.

The last major Japanese intervention happened in August 2024. That action resulted in a three-day 6.1% decline for the S&P 500 and a sharp rise in the VIX volatility measure.

Year-End Rally Still on the Table

The Santa Claus Rally period officially begins Wednesday. This seven-day window has never recorded three straight years of losses, giving optimistic traders hope for a turnaround.

Wall Street forecasters maintain bullish views for 2026. The median S&P 500 price target sits at 7,600 points, roughly 12% above current trading levels.

Earnings growth projections stand at 15% according to London Stock Exchange Group data. This would push the index’s price-to-earnings ratio lower if both forecasts materialize.

Proposed tax legislation and continued AI infrastructure spending could support markets next year. Political considerations ahead of midterm elections may also influence policy decisions.

Monday morning futures trading showed gains across major indexes. Nasdaq 100 futures climbed 0.64% while S&P 500 futures advanced 0.45% as the week began.

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