From the desk of Steve Strazza @sstrazza
At the beginning of each week, we publish performance tables for a variety of different asset classes and categories along with commentary on each.
Looking at the past helps put the future into context. In this post, we review the absolute and relative trends at play and preview some of the things we’re watching to profit in the weeks and months ahead.
Rotation into value is dominating the narrative right now as money continues to pour out of the former leaders and into long-term secular laggards like Financials and Energy.
In line with this trend, we continue to focus less on US Large-Caps and Growth, and instead look for opportunities in SMIDs, Cyclicals, and International stocks.
Overall, the global equity market remains healthy, supported by strong breadth and rotation. Meanwhile, defensive assets like Gold and Bonds continue to underperform.
We've really been hitting on these themes a lot recently. Here's a quick recap of what we're seeing out there:
We'll mainly be reinforcing these topics in today's report.
Let's jump into it with our US Index table.
Of the major indexes, the Large-Cap Growth-heavy Nasdaq 100 $QQQ has been hit the hardest lately. While just about every other major average is positive over the trailing month (except for Utilities), the Nasdaq is lower by more than -5%...
It's not so much that money is flowing out of stocks. Instead, we're seeing capital shift between different stocks and sectors. This is illustrated by the strength in Financials, Energy, and pretty much any index or sector with heavy cyclical exposure.
Take the Dow for example, which has half the exposure to Technology as the Nasdaq, and a whole lot more in Financials.
Transports are an even more extreme example as they have zero exposure to Technology and are comprised 100% of Industrials (by definition).
This explains why both of these indexes are still trading more or less at all-time highs...
In fact, Transports recently booked their fourth consecutive weekly closing high. So even if the Nasdaq becomes a sideways mess, there should be plenty of opportunities elsewhere.
The recent disparity among the indexes is simply an effect of the rotation that is taking place. Unless we start seeing breakdowns on an absolute basis, this is perfectly healthy and shouldn't be a cause for concern.
Considering its recent weakness, this would start with the Nasdaq. We're watching closely as the tactical trend is at an inflection point. Whether or not this former resistance around 300 acts as support this week will be excellent information
This is as logical a level as any for the Nasdaq - and Growth in general, to catch a bid. We think the entire space is likely to rebound here. Not just on an absolute basis, but also on relative terms.
On the other hand, if QQQ can't defend the September highs, this is likely more than just a garden variety pullback, and a more cautious near-term view is warranted.
Let's move now to our Sector ETF section.
Similar to the Nasdaq, Large-Cap Tech and Discretionary are also currently facing important tests as buyers try and step in to defend the highs from last fall.
These potential support zones coincide with the first Fibonacci extensions from last year's drawdowns, reinforcing their importance.
The line in the sand for Tech and Discretionary is 123 and 159, respectively.
Bulls don't need these areas to outperform, but they do want to see them participate.
Seeing these levels break would be a concern, but it's just not the bet we're making. We believe this weakness is being driven by the lopsided exposure some of these cap-weighted indexes have to their largest components.
For example, equal-weighted Discretionary $RCD and cap-weighted Discretionary $XLY couldn't look any different.
While Amazon and Tesla have dragged XLY lower by more than 10% since last month, RCD is making new all-time highs, proving this weakness is not representative of the broader sector.
With that said, we are seeing weakness in some other individual growth names. Here are some of the market's former leaders that have pulled back to important support levels similar to the large-cap indexes themselves.
This is as good a place as any to take a shot at these names as you really couldn't ask for cleaner risk levels.
At the same time, there's been a notable change in character as the uptrends in these stocks have come under pressure recently and look vulnerable at current levels. We don't want to be overly tactical as we view these as very short-term trades. The longer they hang out here, the more likely they are to resolve lower.
Although with risk so well-defined, if you want to get cute... this is the right place to do it.
While we think they dig in and find support here, what we think doesn't matter.
If the overall market comes under pressure, these key former lows are very likely to be violated. The same is true for the key former resistance levels being tested by XLK, XLY, and QQQ right now. We're keeping a close eye on all these charts for early signs of further weakness.
As for the big winners this week?
It continues to be all about cyclicals and value. Particularly Energy and Financials. We've written plenty about this new leadership recently.
The weight of the evidence suggests these groups are likely to outperform over the intermediate to long-term, so we want to continue to lean on them.
The recent breadth thrusts, what we're seeing in our intermarket analysis, and other data points like the strength in commodities and interest rates, all point to this new leadership regime being a new structural trend.
Although from a tactical perspective, the relative trends are stretched and there is likely to be some mean reversion back into Technology and Growth in the coming weeks.
In fact, XLE just registered one of its greatest monthly momentum readings relative to XLK. While this is supportive of a new long-term trend, it indicates some corrective action is likely over the short-run.
Whether or not this lasts, and how big the move will be is the real question. Looking out months and quarters, the current data favors this being no more than a counter-trend development.
