Renewed leadership by the sectors that stand to benefit most from a stronger economy and profit growth down the road…could be one of the best indications that perhaps the worst is indeed behind us and the rally has more room to run. However, if these cyclical sectors fail to participate more fully, that would be a signal of more potential trouble ahead. [Let me explain.] Words: 840
So says Mike Burnick (www.moneyandmarkets.com) in edited excerpts from his original article*.
Lorimer Wilson, editor of www.munKNEE.com (Your Key to Making Money!) has edited the article below for length and clarity – see Editor’s Note at the bottom of the page. This paragraph must be included in any article re-posting to avoid copyright infringement.
Burnick goes on to say, in part:
For the third straight August, investors are facing widespread uncertainty:
- the approaching fiscal cliff,
- a global economic slump,
- upcoming U.S. elections,
- Europe’s never-ending debt crisis and
- a persistent drum-beat of headline risks about how the European Union can possibly solve its debt woes.
The predictable result has been another summer of volatile markets, with the Dow Jones Industrials on a roller-coaster ride — diving more than 800 points in the month of May alone, followed by a whipsaw 700-point-plus rebound since June’s low.
The Risk-ON vs. Risk-OFF Indicator – The Ultimate Sentiment Indicator
It’s been… a “Ro-Ro” market as the pendulum swings relentlessly from risk-on to risk-off mode and then back again. It’s really no surprise why investor sentiment appears so depressed at the moment…and there are still plenty of lingering concerns that could send jittery markets into another tailspin.
To help provide clues about the stock market’s next potentially major move…[I’ve developed] a custom indicator [- I call it the Ro-Ro Indicator (see below) -]…that’s a good gauge of whether positive or negative sentiment has the upper hand in the stock market. I simply take the values for the Standard & Poor’s Consumer Discretionary stock index and divide by the S&P Consumer Staples stock index.[The Ro-Ro Indicator] is a handy comparison that shows how well consumer discretionary stocks like Amazon — that are more cyclical and dependent on consumer spending — are performing compared to staples like say, Proctor and Gamble, which tend to be steady market performers regardless of the economic outlook.
[Looking at the chart above ]…you can see that:
- consumer discretionary companies had the upper hand in terms of market performance from September 2011 through this past April when the S&P 500 Index gained 19.3% overall.
This was clearly a risk-on period in markets, when aggressive stocks and commodity investments outperformed more conservative strategies.
- earlier this year, however, consumer staples outperformed discretionary companies by a wide margin. Over this period, the S&P 500 has been a lot more volatile, posting a total return of just 1.9%.
The current direction of this indicator tells me that over the past several months, risk-off mode has been the dominant trade of the day.
Overall, the S&P 500 Index is up more than 11% year-to-date, a surprisingly good performance given the volatility we’ve witnessed. Still, it’s clear that many investors remain unconvinced, as stocks climb the proverbial wall-of-worry…pulling $71 billion out of U.S. stock mutual funds so far in 2011, even as the market has moved quietly higher!
Considering this one-sided negative sentiment, it’s quite possible that a fair amount of bad news has already been priced into the markets at this point, a potential positive.
On the other hand, however, those who do remain invested are acting very cautiously with their stock selection at present, favoring defensive sectors like telecom, health care, and yes, consumer staples and this raises a red-flag on the markets in my mind.
What Is Needed to Move the Market Further Upwards
If the bullish move in domestic stocks since June is to continue, I would expect:
- the rally to broaden out to more economically sensitive, cyclical stocks and sectors such as technology, industrials, and of course, consumer discretionary companies.
In other words, I’m looking for renewed leadership by the sectors that stand to benefit most from a stronger economy and profit growth down the road. In fact, stronger performance from these names could be one of the best indications that perhaps the worst is indeed behind us and the rally has more room to run. However, if these cyclical sectors fail to participate more fully, that would be a signal of more potential trouble ahead.
Consumer Discretionary vs. Consumer Staples: the Clue to Market Direction
Since my focus is investing in exchange traded funds I’m watching the SPDR Select Sector Consumer Discretionary (XLY), and the SPDR Select Sector Consumer Staples (XLP) for clues as to whether the current risk-off climate will continue, or reverse back to favor risk-on trades again.
XLY is up 12% so far this year but lately it has been struggling to keep up the pace as shown in the chart below.
XLY has been locked in a sideways trading range since June, even while other more defensive ETFs have outperformed it. This tells me investors are still clinging to a risk-off mentality, and aren’t as enthusiastic about stocks that would benefit from a pickup in the economy.
If XLY can break out above its recent highs, however – and resume its leadership role – this could signal a return of the risk-on trade in markets, which could help sustain this rally. Stay tuned!
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*http://www.moneyandmarkets.com/for-clues-to-market-direction-watch-my-favorite-ro-ro-indicator-50168 (To access the above article please copy the URL and paste it into your browser.)
Editor’s Note: The above posts may have been edited ([ ]), abridged (…), and reformatted (including the title, some sub-titles and bold/italics emphases) for the sake of clarity and brevity to ensure a fast and easy read. The article’s views and conclusions are unaltered and no personal comments have been included to maintain the integrity of the original article.
In the face of the now-obvious negative outlook – the corrosive effect of deflation deleveraging, excessive debt, the softening U.S. and global economy, the “fiscal cliff”, the implausibility of a European solution, the probability of a hard landing in China and the prospect that corporate earnings estimates were far too high – the question we get most often is why the market has declined so little, and why it seems so resistant to bad news. In our view the reluctance of the market to give up much ground is typical of….Words: 356
…[V]iewed objectively, the world currently stands at the precipice of an even greater crisis than the one in 2008-2009 but you wouldn’t know it by looking at US stock prices. The S&P 500 is down only about 10% from its peak levels in October 2007 compared to the leading indicator stock markets in Spain, Italy and China which…are all down by 60% or more since their peaks. It is folly to think that the S&P 500 index can long withstand simultaneous conflagrations in those countries because, as their economies go, so too will the entire global economy and [that is bound to adversely affect the U.S. as] close to 50% of all S&P 500 earnings are derived from outside the U.S.. Words: 840
Looking at the charts we…[see] a very strong double-top formation – very similar to what we saw back in 1980….[which suggests] that we are headed all the way back down again, possibly even to the lows that we saw in 2011….This is likely to weigh on equities. Words: 291
Goldman Sachs reports their Global Economic Indicators (GLI) show the world has re-entered a contraction and…is predicting a market crash worse than that of the early 90′s recession and one slightly less than the sell-off at the turn of the millennium. [Below are graphs to support their contentions.] Words: 250
Marc Faber has stated in an interview* on Bloomberg Television that “I think the market will have difficulties to move up strongly unless we have a massive QE3 (something Faber thinks would “definitely occur” if the S&P 500 dropped another 100 to 150 points. If it bounces back to 1,400, he said, the Fed will probably wait to see how the economy develops)….. If the market makes a new high, it will be with very few stocks pushing up and the majority of stocks having already rolled over….If it moves and makes a high above 1,422, the second half of the year could witness a crash, like in 1987.” Words: 708
Investors are being told that the worsening sovereign debt crisis in Europe will leave the U.S. economy unscathed….[because,] since we don’t make many things to export to Europe, our GDP won’t suffer a significant decline at all…. What [has been] conveniently overlooked, [however’] is the fact that 40% of S&P 500 earnings are derived from foreign economies and the seventeen countries that make up the Eurozone have collapsed into recession. [Let me explain what effect that will have on the performance of the S&P 500 this summer.] Words: 325
The American Association of Individual Investors (AAII) released its latest sentiment readings yesterday…[which showed that] bullish sentiment dropped a full eight percentage points to 22.19%, the largest weekly decline since April 12….Now that virtually no one is optimistic about the stock market, that’s all the more reason we should be bullish. You see, during the current bull market, when bullish sentiment drops below 25%, stocks (almost) always rally over the next three and six months. Take a look. Words: 384
The whole world of fundamental and technical analysis seems to be in a state of chronic confusion – confounded by this seemingly trendless stock market….[Usually] the stock market possesses the ability to forecast coming events but the periodic spates of Fed stimulation have thrown some sand into the stock market’s delicate machine….Thus, we see the stock market ‘up on Fed-created stilts’ and at the same time we see depressing economic news in the newspaper headlines. Meanwhile, Treasury yields are sitting on near-record lows. We’re seeing a strange paradox here.
According to all sorts of financial media, the end of the fiscal world as we know it is about to occur. All rational individuals surely would come to the same conclusion, right? Wrong! For the past 3 years, the “world has been ending” according to nearly every publication. The market however, simply does not agree with this prognosis. Throughout the past 3 years, despite the negative headlines, the markets have rallied over 50% in wave after wave of briefly interrupted momentum. Given this continuous counter-intuitive bullish onslaught, and according to the volatility smile and the current positioning of money in the options market, I believe it is entirely possible for the S&P 500 to end the year…up 15% from its current price. [Let me explain.] Words: 829
We are continuing to see ongoing pessimism among individual investors about the short-term direction of stock prices [but if you are a contrarian you should bet on a continued rise in stocks despite the continued sense of unease. Let’s take a look at a few charts that tell the story.] Words: 510
The Q Ratio is a popular method of estimating the fair value of the stock market developed by Nobel Laureate James Tobin. My latest estimates [suggest] that the broad stock market is about 33% above its arithmetic mean and 42% above its geometric mean……Periods of over- and under-valuation can last for many years at a time, however, so the Q Ratio is not a useful indicator for short-term investment timelines [and, as such,] is more appropriate for formulating expectations for long-term market performance. [Let me review the Q ratio with you, along with several graphs, so you can clearly understand what the Q ratio is, how it works and what it is currently conveying.] Words: 800
We are at a major crossroads in the equity and bond markets. We could see a major ‘risk-on’ rally in the S&P 500 BUT if no equity rally ensues, and U.S. Treasury note yields keep falling, then something terrible is about to strike at the heart of the global capital markets…. [As such, it is imperative that you keep a close eye on this new ‘Peak Price’ indicator. Let me explain.] Words: 450