From the desk of Willie Delwiche.
Earlier this week JC referenced the 1966 Western “The Good, the Bad, and the Ugly”. Labelled a “Spaghetti Western” because it was directed by Italian director Sergio Leone, the movie and the genre overall have become cultural icons. Little did JC know that I had just watched this movie with my son within the past week (much the way that I had watched it with my father when I was growing up). Beyond just seeing the market metaphor in the movie’s title, the reference had the movie’s theme music again ringing in my ears.
It’s been a volatile week from a sector level performance perspective, but this is still how I am looking at the market:
The Good: Cyclical Value (Energy, Materials, Industrials and Financials) is breaking out to new highs on an absolute basis and after a decade of underperformance is gaining strength relative to the S&P 500. These are the areas of the market that are likely to directly benefit from a global economic rebound that is gaining momentum and the rise in interest rates that is likely to accompany that recovery. These are areas that have been out of favor for so long that passive investors don’t have enough exposure to benefit from the leadership we are seeing.
The Bad: Cyclical Growth (Consumer Discretionary and Technology) poses a risk for many investors. It is rolling over relative to the rest of the market, but its elevated weighting could drag down passive investors with it. The S&P 500 has nearly ten times the exposure to Technology (26%) as it does Energy (2.8%). Given the decade of leadership from growth areas of the market, investors are likely to cling to that exposure and be slow to rotate into new leadership.
The Ugly: Defensives (Consumer Staples and Utilities) have struggled on an absolute and relative basis. They are out of favor sectors that have been making lower lows and lower highs versus the S&P 500. While they are above their early March lows, its premature to conclude that a sustainable turn has been made.
To help keep this in perspective, our creative team put together this outstanding clip. It’s All Star Charts meets American Movie Classics: