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Crawl a Wall of Worry

There’s an old saying that bull markets “crawl a wall of worry” and bear markets “slide a slippery slope of hope.”

Think of all the headlines we have seen in the last two years. Inflation is at its highest level since 1981; the national debt is closing in on 35 trillion dollars; mortgage loan rates are at their highest levels since 2000 while the median home price is up +30% in the last four years; wars are breaking out and escalating in the middle east; and socialism is becoming increasingly popular among young Americans.

Even with those challenges, markets, and more specifically large cap stocks, have not experienced an extended and deep bear market since the Financial Crisis. In fact, any large decline has been met with a quick rebound to a new high. Now, eventually a bear market will happen and will be driven by some unknown future event, but right now this market continues to climb and crawl a wall of worry.

A Shift in Leadership

At least there is one worry that is starting to ease in the markets, and it has to do with sector leadership. We have mentioned several times that 2023’s market rise was fueled and led by the strength of technology-related stocks. The “Magnificent 7” dominated last year, and due to their overly large weight within the S&P 500, pulled the market index higher. The Magnificent 7 generals were out in front leading the battle, while the troops never left the bunkers.

Now, there has been a significant shift in market leadership.

According to Canterbury’s risk adjusted strength rankings, which account for a both a sector’s momentum as well as its volatility, information technology (the largest S&P 500 sector at 29% of the index’s capitalization) now ranks 8th out of the 11 US sectors. Communications (containing Meta and Google) now ranks 9th, while Discretionary (Amazon and Tesla) now ranks dead last out of the 11 US sectors.

So, which sectors are at the top of the risk adjusted rankings? While Financials ranks 1, the remaining leadership belongs to the conventional “defensive” sectors. Utilities is 2 while Consumer Staples, Industrials, and Health Care round out the top five. At the beginning of this year, Utilities was ranked last, and Staples was near the bottom of the sector rankings.

The rotation in strength is invited and helps ease some tensions in the market. Markets are weaker and less sustainable if indexes are being led higher by a select few stocks. A rising tide should lift most ships, and right now sector strength is more evenly dispersed.

The table below shows the three months change in sector rankings, according to Canterbury’s risk adjusted strength ranking (which is technically referred to as “volatility-weighted-relative-strength”).

Source: Canterbury Investment Management

Chart of the Week: Consumer Staples

Over the last few months, the Utilities sector has shown the biggest jump in sector rankings. Our Investor Insights commentary has featured Utilities as the Chart of the Week twice, first on March 11th, then again on April 1st. In both instances, we noted how Utilities was showing signs that the sector wanted to break out of overhead resistance and move higher. Since our initial feature on March 11th, the Utilities sector is up +12.9%. That is a textbook example of positive technical characteristics playing out favorably. Here are the links to both articles (published on Canterbury’s site):

Since we have already discussed Utilities, we will focus on the second biggest riser, Consumer Staples. This sector features stocks like Procter and Gamble (featured as our chart of the week back in February), Coca-Cola, Wal-Mart, and Costco. We should note that Consumer Staples has a much different looking chart than Utilities did before we highlighted it. Different isn’t necessarily negative, but the chart is not without challenges.

Here is a chart of Consumer Staples, using the State Street Select Sector SPDR ETF, XLP. See the corresponding points below the chart.

Source: Canterbury Investment Management. Chart created using Optuma technical analysis software.

1.      At point number 1, you can see that XLP has trended sideways for the last few years. Each of its relative peaks occurs around the same $77-78 price range, before supply takes over and causes a selloff. The ETF is now at that same point again. Will it be able to sustain a breakout of overhead resistance? Will that resistance then become support?

2.      Point 2 is the RSI, which measures overbought and oversold conditions. A security is overbought when it has gone too far, too fast. Each time XLP has hit the resistance line, it has also been overbought. Overbought conditions typically precede a pullback.

3.      Point 3 shows that MoneyFlow is at a new high. Money Flow is a volume indicator and should confirm positive price moves. During the ETF’s most recent decline in October, the MoneyFlow index’s decline was limited. MoneyFlow is confirming the most recent upward movement.

The Consumer Staples sector is at a new relative peak, matching its previous point of contention while being overbought. Will this be the time that it finally breaks through resistance? It should be noted that several stocks within this sector are performing well. As mentioned above, we highlighted Procter and Gamble a few months ago. That stock is still showing positive characteristics.

Bottom Line

The market’s leadership has almost completely rotated from what it was a few months ago. Technology stocks continue to slip in risk-adjusted ranks, while “defensive” oriented sectors rise to the top of the ranks. A sector like Utilities, which had been ranked last, is now ranked second. Consumer Staples has also made a run, although that sector could be meeting some overhead resistance.

With all the negative events we see on the news, remember that bull markets often crawl a wall of worry. Bear markets will happen, but the news is not a leading indicator. To put it simply, we will see volatility start to increase a little bit, before it increases a lot. News creates market noise.

We continue to monitor and adapt our Portfolio Thermostat strategy as market conditions change and sector and stock leadership rotates.


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