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Equities : Narrowing U.S. Equity Leadership Belies Dow Record Highs

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08/07/2017 | 10:04am CET

Last week the S&P 100 index of U.S. blue chips posted its fifth consecutive weekly gain. The Dow Jones Industrial Average winning streak extended to nine consecutive up-weeks and accompanying all-time record closes. However drilling down beyond the headline names, the U.S. equity market is a bit less rosy.

The S&P 500 Equal-Weight index, a version of the S&P 500 that strips out market-value biases, just posted its biggest weekly drop since May and its worst week versus the regular S&P 500 in 2017. Analysts normally like to see key equity indexes moving together, a sign the rising market is lifting all boats. While enough megacap stocks rose to keep the S&P 500 afloat, more stocks among the mid/smaller cap names are turning down versus the number still in rally mode. Thirteen S&P 500 stocks posted declines greater than 10%, compared with just three that rose that much, with most of the carnage in the energy and drug industries.

Up 8.4% in 2017, the equal-weight S&P 500 is now trailing the capitalization-weighted index by 2.3 percentage points year to date. Only once since the bull market began has the gap been wider by early August.

A similar bias shows up elsewhere. Large-cap stocks have risen six times as fast as smaller companies in the Russell 2000 Index through last week. The advance in mid-cap companies is about half the S&P 500.

The first chart below shows the second half performances of the key U.S. benchmarks thus far. The Russell 2000 small cap index (in yellow) is negative while the S&P 500 Equal-Weight index (in white) lags the Dow (in red) by about 2% and the regular S&P 500 (in orange) by 1%.  For most of 2017 the indexes have been moving in lock-step.




Declining market “breadth” (the number of issuers driving the market higher) is an important market indicator analysts look to in order to judge if a trend is near exhaustion. The U.S. broad market will not continue to rise just due to money piling into the already over-crowded Apple, Google, Facebook and Amazon trades. The next chart shows the NYSE advance/decline line. For the past few weeks, advancing issues have almost been perfectly offset by declining issues. For the moment, the benefit of the doubt goes to the Bulls and we’ll call this a healthy consolidation in the uptrend. However if breadth begins to deteriorate, even as the cap-weighted indexes hold up, this would be cause for concern.




Another way to measure market participation is by looking at the number of companies making new highs and new lows.  The ratio of S&P 500 companies touching 52-week highs versus those at 52-week lows was about 15 when the benchmark index last set a record. That’s roughly half the average number of highs during previous instances of record S&P 500 closes in the past two years. The metric now sits at 5.1.

Widespread gains have also been a hallmark of the eight-year rally in U.S. equities. By this time of year, the equal-weight gauge has led the regular S&P 500 by an average 2.6 percentage points. This year’s divergence merits attention.

Finally, low volatility is another concern today. The VIX index of S&P 500 options volatility recently hit an all-time low of 8.84. If the VIX correctly reflects the degree of complacency in today’s market, the risk of an accident are being greatly underestimated.

In sum, we observe warning signs in falling market participation and extreme low volatility. However traditional market indicators have likely been subdued by “lower for longer” interest rate policies imposed by the central banksters. It may be too soon to bail from this relentless bull market, but keep an eye on narrowing market leadership to judge the health of the broad market advance.   


Owen Williams
© 4-traders.com 2017
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