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The one issue that could pause Santa Claus rally

Let the countdown begin! It's December and there are just 21 trading days left in 2014.

Source: NYSE photo

According to the Stock Trader's Almanac, December is usually the second strongest month of the year — returning better than 1 percent, on average — which means the year-end target for the S&P 500 would be 2087.

Will that be true this year? There's one key factor to consider: Oil.

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With oil and energy stocks under huge pressure, many are asking if the broader market will be able to hold on. The news out of OPEC has understandably raised the "nervousness bar" among some asset managers and traders. Panic set in on Friday and Monday as investors re-assessed the new environment. Does this represent capitulation in the energy group? Is it demand that is really weak or have we become so efficient at producing oil that supply is now the problem? I believe that once oil stabilizes, then we will once again see the broader market find its footing and it's off to the races yet again.

Global demand is strong — OPEC is no longer the big dog on the street in terms of controlling global supply. China is growing at 7.2 percent; the U.S. is growing at 3+ percent and is not only growing but seems to be accelerating, which secures demand into the future. Lower energy costs have helped to fuel consumer spending and consumer confidence as well as help to lower the costs of manufacturing and transportation. Further weakness in the price of oil will only help stoke more demand across the board as it widens profit margins on a range of industries.

While Japan and the euro zone are stuck in what appears to be a no-growth environment, they still need energy to function. Once they move into growth mode, then demand will only increase. And if the market is a discounting mechanism, then the future is, in fact, bright. Take a look at Japan: It shows that market trading near 7-year highs, while Germany, France and Spain are all trading closer to their highs than not. suggesting that investors believe that the future is brighter.

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Still, until we get more clarity on oil, markets will remain vulnerable. On Monday, the first day of December, we saw some of the best November performers — techs, utilities, and consumer staples — under greater pressure as asset managers used them as a source of cash in the event of more downside pressure.

Although my sense is that the market is fairly to fully valued, I expect that, in the end, oil will stabilize in the $65 range, causing the markets to find support and then challenge the most recent high before Dec. 31. Expect to see a bit of volatility in the early part of the month as asset managers/traders adjust and re-deploy for 2015. And if weaker oil continues to result in near-zero inflation, then we can expect the Federal Reserve to keep rates lower for longer, benefiting stocks over bonds.

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I suspect we will see the S&P 500 end the year between 2050 and 2100. As noted by so many analysts/strategists and market commentators (myself included) at the beginning of the year, markets had been expected to return to "normal" this year — historically, that means up 8 percent to 12 percent from last year (all in). Currently, we are right there — up 12 percent, when you add in dividends. Even if the market back offs to its 50-day moving average of 1985, the annual return would still be 10 percent all in — not bad.

Commentary by Kenny Polcari, director of NYSE floor operations at O'Neil Securities. He is also a CNBC contributor, often appearing on "Power Lunch." Follow Kenny on Twitter @kennypolcari and visit him at kennypolcari.com.

Disclosure: The market commentary is the opinion of the author and is based on decades of industry and market experience; however no guarantee is made or implied with respect to these opinions. This commentary is not nor is it intended to be relied upon as authoritative or taken in substitution for the exercise of judgment. The comments noted herein should not be construed as an offer to sell or the solicitation of an offer to buy or sell any financial product, or an official statement or endorsement of O'Neil Securities or its affiliates.

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