From the desk of Steve Strazza @sstrazza and Louis Sykes @haumicharts
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 in order to profit in the weeks and months ahead.
As we mentioned last week, the weight of the evidence overwhelmingly lies in favor of the bulls.
We’re seeing rotation supporting this move higher in equities; a sustained bid for SMIDs and Micro-Caps while Large-Cap indexes slowly work higher is all very constructive for the early innings of bull markets.
This environment is also providing bulls with an increasingly wide selection of areas to allocate capital – from Industrials, Technology, and Cylicals, and now Financials.
Seeing this expansion in areas showing relative outperformance all jives with the broad breadth we’ve been hitting on so often.
And FICC continues to support stocks in their primary uptrends, giving bears very little room to make a sound argument.
Without further adieu, let’s jump into this week’s report with our US Index table.
While the Large-Cap Growth-heavy Nasdaq 100 ended the week down, Micro-Caps led the charge with an almost 3.5% gain.
If you take a good look at the table you should notice a trend in the color scale as it turns a darker and darker green as we move down the list. This does a great job illustrating the increasing strength and higher returns as we move down the market cap scale.
Also notice how this is no longer just a short-term development… instead, we’re now seeing it across more or less every timeframe.
Here’s a long-term look at Micro-Caps $IWC.
Similar to prior consolidations, we believe the recent base breakout is strong evidence that even the riskiest stocks in the US are now in a brand new bull market.
These major moves down the market-cap scale are not only consistent with the early s We’ve tages of new secular bull markets, but also suggest that a structural reversal in favor of SMIDs over Large-Caps is underway.
We’ve been discussing this relative trend reversal since the fall of last year. Here’s what we said about it in an RPP Report in November:
Since the 1980s, we’ve only seen 12 monthly rate of change readings as extreme as the recent one. 10 of these incidences occurred at either the onset or during a period of Small-Cap outperformance.
Looking back through history, when these strong upward thrusts followed considerable declines like the one we just experienced, they’ve signaled exhaustion and marked key trend reversals. We don’t think this time will be any different.
In the time since the evidence has only continued to build and suggest this reversal is the real deal.
Here’s another helpful ratio we’re watching to visualize this relative strength from Small-Caps.
As you can see, the Russell 2000 $IWM recently completed a significant rounding bottom reversal pattern relative to the Nasdaq $QQQ.
If this ratio is above its June highs, we think it’s prudent to look for more buying opportunities in SMIDs compared to Large-Cap Growth.
But from a shorter-term perspective, we still think Large-Caps are ready to pick up the reigns in terms of leadership… if they even need to.
We’re seeing a similar pattern in many Mega-Cap Growth stocks as they digest their gains off the March lows in healthy continuation patterns. If these major names resolve higher from their current consolidations – something we’re definitely erring toward – it would be hard for them not to show relative strength in such an environment.
Here are some examples:
Bottom line… what we’re seeing beneath the surface continues to support a bullish outlook for Large-Caps at the index level.
Here’s our Sector ETF table.
This market is offering investors a wide variety of buying opportunities.
From economically sensitive areas like Materials $XLB to so-called “recession-proof” Health Care stocks $XLV, outside of just a few sectors, everything is trending higher over the short to intermediate-term. Just look at the sea of green for 1 and 3-month returns.
In such a risk-on environment, we don’t need to be overly specific about which areas we’re leaning on.
If a stock is showing relative strength and offers a favorable and well-defined risk vs reward… there’s no need to overthink it, we want to be swinging at as many pitches as possible right now.
This chart is an excellent representation of the point we’re trying to make.
Over the last 3 months, 85% of all sectors across all market-caps (on both an equal and cap-weighted basis) have outperformed the S&P 500.
With so many areas outperforming it should be easier for investors to generate alpha or “beat the market.”
With all that aside though, an even more important point might be that this is simply further evidence of the broad-based strength that has been supporting the continued move higher in stocks.
And the only sectors not outperforming in this environment are the defensive, bond-proxy groups… Utilities, Real Estate, and Staples.
This is not only evidence of bullish risk appetite among market participants but is also an indication that they anticipate higher yields.
And with the US 10-Year Yield at its highest level in about 10 months, we’re expecting the same. As we’ve discussed for a while now, more and more data points continue to suggest we’re likely to be in an environment with higher rates and lower bond prices in the future.
Now here’s a look at some of the more offensive Large-Cap Sector SPDRs relative to the S&P.
None of these are below key levels. In fact, it’s quite the opposite.
Even Financials have carved out a formidable bottom relative to the broader market.
Discretionary is pushing to new all-time relative highs.
Industrials and Materials are breaking out and have the look of future leadership areas.
Meanwhile, our market darling, Technology is digesting its relative gains in a healthy continuation pattern.
All of these are bull market developments… definitely not things we see during the early stages of distribution.
Let’s move on to our Industry table.
There’s plenty of green on this table too. Not just for this week, but across all timeframes.
Gold Miners, however, continue to show weakness over the short to intermediate-term. The group is trendless at best and thus remains an area we want to avoid for now.
Software, Medical Devices, and Internet had a quieter week than their peer groups. But one week doesn’t make a trend and we’re still seeing very bullish breadth underlying these sectors which strongly suggests higher prices in the future.
We talk a lot about risk appetite around these parts… and for good reason.
So, what do you think “pot stocks” making new 52-week highs for the first time in years says about investors’ desire to take on risk?
Are they once again craving this burnt-out industry as a way to position themselves defensively? Doubt it…
Let’s discuss the Factor list now.
Value $VLUE had quite the week. It is also now the 2nd top-performing factor over the trailing month.
Here’s what we had to say about the Growth vs Value debate two weeks ago:
One theme we’ve discussed often is how we haven’t seen a true rotation into Value over the last few quarters. In fact, when we look at Technology $PSCT vs Financials $PSCF – which is a ratio we often use to represent Growth vs Value – it just closed the week at an all-time high on a Small-Cap basis.
The Large-Cap ratio, on the other hand, recently made its first series of lower highs and lower lows in years.
In our view, the evidence is mixed from a factor perspective. It’s not so much that we’re getting sector or factor rotation, but instead a broadening down the cap scale along with sustained relative strength from Small and Mid-Caps.
We’re still getting mixed information about the relationship today. Our outlook is likely to remain neutral until we see some strong data suggest that a significant move in one direction or the other is finally underway.
So, just to recap all this:
- Value is strong on an absolute basis
- Growth is strong on an absolute basis
- Value still has a lot of work to do before we want to bet on a sustained relative reversal
- Growth has lost its leadership role and we no longer want to favor the factor to express our bullish thesis on stocks
The relative ratio has become a hot mess, particularly for Large-Caps.
To keep our analysis as “apples-to-apples” as possible, we use the iShares ETFs that track the Russell 1000 Growth $IWF and Russell 1000 Value $IWD indexes.
Here’s what we’re working with.
As quoted above, we already pointed out the series of lower highs and lows as a bearish development months ago. Things have only continued to deteriorate since, as the ratio just recently made a sustained move below its 200-day moving average.
It is the first time we’ve seen either of these things occur in years.
Now, here is Value $VLUE on an absolute basis… just now finally reclaiming its pre-COVID all-time highs and breaking out of a 3-year base.
Better late than never, I guess.
If you just ignore the relative trends, Value looks great here – sporting a clean breakout and clearly defined level to trade it against.
It may even be showing early signs of a relative reversal vs both Growth and the S&P 500 (as pictured in the chart above), but we’ve already discussed this and can’t do much but wait for more information for now.
If VLUE is above 92, we want to own it with a target of 115 over the next 6-12 months.
While the setup is very similar for the Russell 1000 Value ETF $IWD, it isn’t emerging from a multi-year base like VLUE is. Note the difference between the two.
The logic behind why we prefer a setup like VLUE more than IWD is simple and all comes down to the power of a big base. Typically, a larger base will have more price memory at the breakout level as it should build every time the upper bounds or highs are tested.
Therefore, when those highs are finally violated on a breakout to the upside, they should then act as a stronger potential support level than one that isn’t tested as many times.
The equivalent levels in IWD are 139 and a target of 173.
So while we can buy some Value here – at either the index level or through individual stocks with favorable risk/rewards, making a conscious decision to shift capital and overweight Value is a premature move and is not the bet we’re making.
Given the structural relative downtrend, it is far too early to call for a long-term reversal in favor of Value.
Moving now to Global markets.
Look at the week the FTSE 100 just had, posting a gain of more than 6%!
We’ve discussed how European equities, among other global laggards, had been catching up to the US and other global leaders. This is a bullish development of course, as the alternative would be for the leaders to catch down to the laggards.
We’re continuing to see more and more of this constructive price action around world markets.
We’ve also been hitting on the thrusts we’re seeing left and right – whether they be in breadth, price, or momentum data, they’re everywhere.
The lower pane of this chart shows the percentage of global indexes, in their local currency, with momentum in overbought conditions.
Unlike what it sounds like, seeing a market in overbought conditions is a bullish development.
How can an overwhelming amount of buyers possibly be a bad thing?
Such a spike in the number of indices at overbought conditions is evidence of broad-based participation and confirmation of what we’re seeing in the US.
If you look at previous thrusts like the ones that occurred in 2013, 2016, and 2020… it typically pays to be a buyer of stocks when you get extreme bullish readings like the current one.
Given the strength in international markets right now, we think adding some international exposure here makes sense.
You can view our trade ideas page, where there are some international buying opportunities outlined.
Moving now to our International ETF list.
We’ve been hitting on the expansion of new highs from international markets for some time now.
Nothing has changed from that view.
We’re also seeing new highs in some of the riskiest global markets in the World which is yet another development consistent with bullish risk appetite.
Here’s the Frontier Markets ETF $FM.
Just look at how tame and consistent the rally off last year’s lows has been. Price just seems to grind higher with almost every passing week. Just recently, the ETF blew through its downtrend line from the early 2018 highs.
Now here’s another market that’s not for the faint of heart – how about Latin America $ILF reclaiming those 2018 lows with authority.
It’s the same story wherever you look… abroad or in the US, at the index or industry level, across all asset classes, etc… risk assets, including some of the riskiest industry groups and stock markets around the world, are making new highs.
It may sound simple and in many ways is. But this price behavior is providing us significant information regarding the state of markets.
Bears are simply running out of places to turn. Their list of talking points has evaporated to almost nothing in recent months.
Let’s discuss Commodities now.
With base metals, lumber, and now energy and agriculture all trending higher, the commodity complex as a whole continues to support and confirm the move in equity markets.
Copper keeps grinding higher despite the extreme bearish positioning by commercial hedgers. We think that says a lot about the demand dynamics in this market right now.
And relative to Gold, Copper continues to shine. The Copper/Gold ratio keeps rising, indicating a move higher for interest rates with increasing conviction.
From a trading perspective, the relative strength is still aggressively in favor of Agricultural commodities. This group as a whole has been a major benefactor of the reflationary environment we’ve entered.
Base Metals also keep rocking higher, acting as a constant reminder of the bullish risk appetite among investors.
Precious Metals are still the major laggards… This is not an area we’re in a rush to buy (except maybe Platinum, which we recently covered and you can read about here).
Let’s discuss Fixed Income now.
Credit spreads continue to contract while Treasury spreads widen as interest rates begin to climb higher and reclaim important levels.
Last week, we also saw the Nasdaq 100 relative to Bonds $TLT make new highs above our Q4 target.
We had a close eye on this level as it was a logical place for the ratio to mean-revert or at least consolidate and digest its gains a bit…
But that never happened. In fact, quite the opposite occurred as price blew straight through this key level.
The ratio continues to make fresh record highs, supporting our bull case for stocks and our bearish thesis for Bonds moving into the first quarter.
As long as this ratio remains above 2.00, it’s hard to think that stocks are under any significant pressure moving forward for the next few months.
Now let’s move to the last section of the report and discuss Currency markets.
We’re seeing new highs in the Aussie, NZD, and the Canadian Dollar. Once again, this all speaks to the healthy risk appetite we continue to harp on.
The US Dollar Index $DXY is sitting at its exact 2018 lows and 2009 highs. It’s quite the critical level, so pay attention to where we go from here. Meanwhile, the smart money is positioned at historical extremes in several currency markets, betting on a move higher in the US Dollar and the opposite for the Yen and Euro.
Given the negative correlation the Dollar has had with risk assets since the March low, this is something we’re monitoring closely. Even a slight rally in the Dollar could put pressure on these areas.
Willie mentioned in an internal meeting last week that people love overthinking the Dollar and all the various correlations.
On a similar note, it’s important to treat each chart on its own merit.
So in conclusion, we’re still hammering the table to buy stocks.
We’re seeing an expansion in areas not only showing strength on an absolute basis but also outperforming the broader market.
This tells us the markets move higher is still being supported by very strong breadth beneath the surface.
While we’re in the camp that a structural reversal is occurring in favor of Small-Caps, we can’t say the same for International and Value stocks.
While these areas are certainly improving and we are bullish on an absolute basis, they still have more work to do before we want to bet on a structural reversal in these major relative trends.
Thanks for reading and please let us know if you have any questions.