The Lead-Lag Report: Correction Already Over?
There is a tug-of-war occurring between the bulls on the cyclical side, and the bears on defense.
-- George S. Patton
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: DEFENSIVE AND CYCLICAL TOGETHER
Materials (XLB) – From Laggard to Leader
Comments: I stated a few weeks ago that "while the trend remains lower, the ratio is nearing its lows last hit in October of last year, suggesting a period of support and leadership may be coming in the Materials trade. More time is needed to confirm a continued move higher." A period of leadership may now be expressing itself as bets on global growth and commodity usage returns.
Consumer Staples (XLP) – Defensiveness Continues
Comments: Strength in consumer staples remains a negative signal for beta given that the sector primarily outperforms in high volatility periods such as during recessions or corrections. The trend in the near-term continues to suggest a correction is likely at hand.
Long Bonds (TLT) – Fear
Comments: Long bonds (20+ years) relative to shorter duration 7-10 year Treasuries strengthened on eurozone fears, poor jobs data in the US, and a general feeling of a correction to come in risk-assets. A rising ratio means investors are favoring duration when allocating to bonds, which is a sign of risk-off sentiment.
LAGGARDS: KEEPING AN EYE ON EMERGING MARKETS
Financials (XLF) – Trend Reversal?
Comments: I have noted numerous times the importance of financials to the broader bull market and reflation theme. Financials dramatically underperformed last year, and staged a period of strength since December. The ratio has recently fallen below its 20 day moving average, in the first significant sign of negative sentiment creeping into risk assets so far this year. The trend is important to watch in the coming weeks to see if a resumption of the bull occurs.
Technology (XLK) – Trend Broken
Comments: It appears that leadership in technology is now under attack given underperformance by Apple (AAPL) and momentum traders getting afraid of a deflation pulse beating in this mini-correction we appear to be in. The trend has been quite powerful since the beginning of the year, and it would not surprise me to see bigger weakness to come in the next several weeks.
Emerging Markets (VWO) – On the Edge
Comments: In prior Lead-Lag Reports, I stated that "one could argue that there has been a mini-correction in emerging markets over the past month as the US has outperformed nearly all other global indices. However, the ratio is nearing early 2012 levels, and may be entering a period of strength as risk-taking continues and reflation is believed by market participants. Any second leg higher likely gets led by emerging markets in the near-term returning to leadership." We are very near finding out if that is true.
There is a tug-of-war happening between the bulls and the bears. On the one hand, the bear trade is outperforming. On the other, emerging markets are recovering and global growth expectations may be creeping back in. Who will win the tug-of-war in the weeks ahead?
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.
This writing is for informational purposes only and does not constitute an offer to sell, a solicitation to buy, or a recommendation regarding any securities transaction, or as an offer to provide advisory or other services by Pension Partners, LLC in any jurisdiction in which such offer, solicitation, purchase or sale would be unlawful under the securities laws of such jurisdiction. The information contained in this writing should not be construed as financial or investment advice on any subject matter. Pension Partners, LLC expressly disclaims all liability in respect to actions taken based on any or all of the information on this writing.
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