[Free Chart of The Week] Smallcaps Finally See Some Relief

JC Parets
November 1, 2018

Small-caps have been lagging for most of the year with that trend really accelerating in May, posing a major headwind for the broader market. One thing we were looking for before putting cash to work on the long side was a sign(s) of risk appetite for stocks, which we're seeing for the first time in a while. The question now is will it last and how does it affect our portfolios?

Below is the Nifty 100 relative to the Free Float Smallcap 100, which we're using to track this relationship of large-cap versus small-cap performance. In early October it pushed to nearly 4.5-year highs, but quickly reversed to confirm its bearish momentum divergence and a failed breakout.

This is an interesting change of character since all the potential bearish divergences we've seen this year were worked off through time, rather than corrective price action. This one, however, was not.

Click on chart to enlarge view.

So what does it mean from a practical standpoint?

In the short-term it means that the trend of large-cap out-performance is at least due for a pause. It would be irresponsible to be long this ratio if it's below 1.772, so we'll have to wait to see if this failed breakout works itself off through time or by correcting further in price.

Secondly, small-caps out-performing, or at least performing in-line with their large-cap counterparts, will continue to support the bounce in stocks that we wrote about on Monday. From a portfolio management perspective we can express the development in this ratio by being short if it's below 1.772, or simply overweighting small-caps.

Whether you're putting this pairs trade on or using it for informational purposes, I think this relationship is an important one to keep an eye on.

Thanks for reading and let us know your thoughts!

If you enjoyed this post and want more premium research, consider joining our community by starting a 30-day risk-free trial or signing up for our "Free Chart of the Week".

Allstarcharts Team

Filed Under