The Lead-Lag Report: Market Offers Signs of a Correction
Market internals continue to deteriorate, suggesting a growing possibility that a correction is coming.
Below is an assessment of the performance of some of the most important sectors and asset classes relative to each other, with an interpretation of what underlying market dynamics may be signaling about the future direction of risk-taking by investors. The below charts are all price ratios which show the underlying trend of the numerator relative to the denominator. A rising price ratio means the numerator is outperforming (up more/down less) the denominator.
For a full version of the Lead-Lag Report, click here.
LEADERS: THE RETURN OF DEFENSIVENESS
Consumer Staples (XLP) – Defensiveness Gets More Aggressive
Comments: I noted last week that "after a period of keeping pace with the S&P 500 in February, it appears that near-term strength could be returning in the sector as investors question whether a correction is upon us. A period of strength could kick in, but more time is needed to confirm if renewed leadership has returned in a sustainable way." It appears that a trend may now be in place in terms of overall leadership in the year's first true negative signal for overall equity markets. Leadership does not bode well as a near-term expression of risk-taking.
Health Care (XLV) – Flight to Safety
Comments: Health care caught a "flight to safety" bid last week as volatility picked up and money began to position a little more defensively. I am not entirely convinced that a significant period of strength could return as recent outperformance may have just been a near-term blip than anything else. The next few weeks will be important to watch to see if a renewed period of strength comes in the form of defensive, low beta health care.
Utilities (XLU) – Dividend Preference Returns (Temporarily)
Comments: Utilities relative to the Dow Jones Industrial Average may be signaling a correction is coming. There has been a pickup of strength in the past two weeks as money continues to get a bit more defensive. Further strength this week coinciding with health care and consumer staples would suggest a decline is more likely in the near-term for broader equity indices.
LAGGARDS: GLOBAL DEMAND QUESTIONED
Industrials (XLI) – Downtrend Emerges
Comments: Industrials bounced back somewhat last week reaching for its 20-day moving average, but appears to have turned away and may resume its weakness in sympathy with the lagging performance of emerging markets in the very near-term. Industrials performed quite well off of the 2009 low, and appear to now be a sector to bet against.
Emerging Markets (VWO) – Change in Momentum
Comments: Emerging markets now do appear to be headed for a potentially more meaningful period of weakness, with the ratio trading firmly below its 20-day (one trading month) moving average. It is unclear how severely the ratio could underperform magnitude-wise given how poorly emerging markets performed last year. At least in the near-term, emerging markets look to be lagging the US.
TIPS (TIP) – Sharp Deterioration
Comments: The TIP/IEF price ratio is one way of seeing if inflation expectations are rising or falling within the bond market. When the ratio is trending higher, it means bets are occurring on rising prices ahead. When falling, deflation is the concern as nominal bonds become favored. The ratio weakness undid itself last week as inflation expectations picked up after falling off the week before.
More defensiveness looks to be getting priced in as utilities, health care, and consumer staples pick up in terms of overall outperformance. It does look like more time will be needed to see if a correction is being foreshadowed now, but within the context of the reflation theme I keep stressing, any kind of decline likely would be short-lived.
Editor's note: This update is published every week exclusively for Minyanville, and is compiled by Michael A. Gayed, CFA, Chief Investment Strategist of Pension Partners, LLC.
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