The S&P 500 is gearing up for a possible Christmas rally. Rising US Treasury yields and a drop in cryptocurrency markets have softened demand. Even after a recent setback from a five-day rally, the index still looks positive. JP Morgan forecasts the S&P 500 could hit 7,500, while RBC Capital Markets expects it to reach 7,750 by 2026, thanks to strong US economic performance, company profits, and technological progress.

Seasonal Trends

The end of the year may bring good news for the S&P 500. Historical data since 1990 shows December often brings growth. Average returns in December are the second highest, and volatility is typically the second lowest. However, growth rates have been slowing down over time. Market hopes for a Christmas rally and the possibility of interest rate cuts add some complexity to current bullish feelings. The Fed is likely to start easing monetary policy once in 2025 and again in 2026, mainly due to shifts within the FOMC. Although the economy supports the S&P 500 at the moment, tariffs are negatively affecting GDP, as seen in ongoing drops in manufacturing activity. Still, investments in artificial intelligence are helping to stabilize the economy, which supports the S&P 500. Worries about an AI bubble caused a stock pullback in November. As those concerns faded, stocks recovered rapidly, boosted by positive news from the tech sector, such as NVIDIA’s $2 billion investment in chip development. Given the S&P 500’s recent decline after a five-day rally, this could present a good opportunity for a year-end push. The market outlook remains optimistic, backed by a robust US economy and hopes for a “Christmas rally.” This short-term dip, caused by rising Treasury yields, might be what traders were waiting for. Seasonality is currently a strong advantage. Historically, the S&P 500 has increased in December over 70% of the time since 1950, making it one of the best months of the year. With lower implied volatility in December, buying options is often cheaper than at other times.

Federal Reserve’s Monetary Policy

The market is highly focused on the Federal Reserve starting to ease its monetary policy. Data from the CME FedWatch Tool shows a strong expectation for at least one rate cut by mid-next year, with more likely in 2026. This forward-looking view is making it hard for sellers to gain traction. Investment in artificial intelligence is a major factor keeping both the economy and the S&P 500 steady, even with the pressures from tariffs on manufacturing. News from the tech sector, which now makes up over 30% of the index, can quickly reignite positive market momentum. This makes options on tech-focused indices like the Nasdaq 100 or specific AI stocks quite appealing. In the coming weeks, we recommend buying call options that expire in late December 2025 or January 2026 on the S&P 500 to prepare for the rally. Using bull call spreads can be a more economical way to take advantage of this expected rise. These strategies align well with historical trends and positive long-term outlooks. However, we should remain cautious about risks like the ongoing decline in industrial production, highlighted in the recent ISM Manufacturing PMI report, which has struggled in contraction territory. An unexpected surge in bond yields could also derail the rally. Therefore, it’s wise to keep trade sizes manageable or use spreads to control risk. Create your live VT Markets account and start trading now.

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