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.
We continue to reiterate the same themes and pillars that support our bullish macro thesis. This would include an abundance of evidence pointing to risk appetite, rising developed market yields, strength from commodities, and of course the ongoing rotation toward cyclicals, value, and international stocks, among others...
Just about anywhere we look, we're seeing investors gravitate further and further out on the risk spectrum.
At the same time, some of the former market leaders have retreated since February and are currently hovering near key levels. Similarly, even the markets' more recent leaders have shown signs of weakness the past few weeks as some have violated critical tactical levels while others are consolidating at logical levels of resistance.
We're seeing this both in the US and abroad... and not just in Equity Markets, but also Credit and Commodities. Even many of the risk-on FX pairs we watch have rallied back to key former highs, a very natural area to see sellers step in.
In this week's report, we highlight some of the most important charts and corresponding levels we're currently focused on. As long as our risk levels remain intact, so does our "bullish risk-assets" thesis. On the other hand, if we start to see more and more of these key levels give out, we'll have to re-evaluate things.
For now, it looks like things are likely to be choppy in the near term as a lot of the market's top-performing areas look to finally be correcting or at least digesting some of their stellar gains since last year.
In our opinion, and for these reasons, we expect this to be the overarching theme of the coming weeks... And this is what we plan to do about it.
Be patient, and monitor how price reacts to these critical inflection points. In the meantime, our current outlook and positioning is unchanged.
In other words, less is more for now. Keep it simple. Stay the course. And let's see how things shake out.
Identifying major levels in the most crucial assets around the world is one of the more important things we do in order to develop our overall view on markets. From a risk management perspective, this is also imperative as it is essentially a playbook for how we want to be positioned and better yet, tells us exactly when and where we are wrong so that we can exit with minimal damage.
While we obviously never intend to be wrong and fortunately for us and our clients, it's been a rare occurrence over the years, we can't underestimate how important it is to have a plan of action in place for if and when the market turns against you.
Let's jump into it with our US Index table.
The primary trends are still unequivocally higher in every one of these indexes and they appear well on their way to achieving our upside targets.
With that said, and as JC laid out in a post last week there are some cautionary developments brewing in the near-term, particularly in some of the most important major averages right here in the US.
The small, mid, and micro-cap averages are definitely at the top of this list. These guys have been the clear leaders over the past year, which means we want to monitor them extra closely as they should provide valuable insight into the health of the current rally.
Right now all three are sending clear warning signs as they just failed miserably to defend their February highs. This isn't a good look for stocks.
At the same time, it's important to note that these bull traps are merely tactical developments and there's been no damage to the structural trends... at least not yet.
Although, these failed breakouts weren't only confirmed by some aggressive selling pressure this week, but these patterns were also accompanied by bearish momentum divergences (not shown) which just confirmed as well, and support this move lower.
If these leaders are below their February highs, risk is elevated in the short-term. It's that simple. And not just for small stocks, but for risk assets in general.
Zooming out though, the evidence definitely remains in the bulls court and risk assets remain attractive. So, how you want to react to these developments - which we believe are simply counter-trend in nature, all comes down to your individual preferences, particularly your timeframe.
Now here is yet another data point that suggests risk appetite remains healthy from a structural standpoint...
New 52-week highs in Transports $DJT relative to the S&P 500 $SPY. Relative strength from Transports is not only evidence of investors embracing riskier stocks but also speaks to the broad participation from equities in general and supports the healthy rotation we continue to see into cyclicals and value.
This is also another one of those value/growth derivative ratios as the Transportation Average is 100% Industrials, while the S&P 500 is dominated by Mega-Cap Growth. Seeing new highs from Transports on a relative basis is definitely a bullish development.
And while we're on the topic of ratios pointing to long-term risk appetite, here's the Russell 2000 $IWM relative to Silver also piercing above resistance to fresh 52-week highs.
This is really just another way to visualize the S&P 500 vs Gold dynamic, so consider it another point scored for the stocks over rocks trade.
Let's move now to our Sector ETF table.
The big standout last week was Energy $XLE, which closed the week down by over 7%. When you put this in the context of its performance over the other periods shown in the table, this is really just a blip, and seeing such a swift and deep pullback makes sense considering the high beta of these stocks, as well as the sectors extreme runup since last fall.
While such an extreme selloff in this leadership sector doesn't inspire confidence, the weight of the evidence still suggests that dips need to be bought, not sold, in the Energy space.
In particular, we're watching the June highs in both the Equal and Cap Weight ETFs, $RYE and $XLE. Notice how this level also coincides with the key 2016 and 2018 lows in RYE, making it all that more important.
As long as Energy stocks are above this critical level we want to own them and think the sector will continue to show leadership.
Add XLE to the long list of leadership assets currently at areas where some consolidation or corrective action would make sense. This is exactly what we're seeing, and it should be interpreted as nothing other than ordinary and orderly price behavior. So, while some near-term chop appears to be what's going on here, all is well and good for Energy if we're above the June pivot highs.
If and when XLE reclaims those 2016 and 2018 lows like RYE already has, it'll probably be a pretty good indication that the next leg higher is underway for this group of stocks. Not only do we think that happens, but we're expecting it sooner rather than later.
Looking to Large-Cap Growth, we've seen a pocket of relative strength in the Communications sector $XLC for a while now.
While Consumer Discretionary $XLY and Technology $XLK corrected over the prior month, Communications bucked the selloff in growth and carried on higher. This sector has definitely been the most resilient among "growth stocks" since they peaked last month (at least on a large-cap basis).
With that said, it's also important to note that while tech and discretionary experienced some legitimate selling pressure over the past month, it's really been isolated within large-caps. In fact, if you look at any of these groups on an equal-weight basis as well as their small and mid-cap sector indexes, you'll see they are performing much better than their large-cap peers.
This ratio chart of equal-weight vs cap-weight discretionary and tech does a good job at illustrating this relative strength. This is also evidence of healthy internals and broad participation.
* Although, we've really seen this theme unwind in recent sessions as the smaller stocks in these groups are down big to start the week. Something to keep an eye on. We'll follow-up next week!
If these ratios tell us one thing, it's that we're in no rush to buy Large-Cap Growth... And the big tell for this relative trend really all boils down to this relationship right here: Tech vs Financials...
If we lose the dot-com bubble highs, look out below. While it's not necessarily bearish for stocks on an absolute basis (in fact, it's likely bullish), we want to be very overweight value in that environment.
It's important to point out that this ratio not only can be falling while tech stocks are moving higher on an absolute basis, but that's actually the higher probability outcome in our opinion. If stocks in general are going higher, we'd actually anticipate this ratio to fall due to the higher beta of value names.
Otherwise, we'd be making the bet that we're in an environment where value stocks are going higher and growth is not just underperforming, but actually falling on an absolute basis... That's just not likely. This is a bull market and the primary trends are all higher.
