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Sectors Reflecting the Market Environment


The four sectors that have outperformed are energy (XLE), financials (XLF), technology (XLK), and materials (XLB).

In the last three months, the rotation from dividend paying stocks has moved to sectors positioned to outperform during this unique recovery. We say it is unique because it doesn't feel like a consumer or manufacturing recovery quite yet. It feels more like an artificially stimulated and globally influenced rebound, and that's just what the markets are reflecting.

The broad markets, as represented by the S&P 500 (SPY), are up +9.5% since June 18. The four sectors that have outperformed are energy (XLE) +17.85%, financials (XLF) +14.2%, technology (XLK) +10.5%, and materials (XLB) + 10.5%.

Click to enlarge

Energy, in our opinion, is being driven by three factors. The first factor is higher oil prices from the growing tensions in the Middle East. With what seems to be an acceleration of violent protests every day last week, there seems to be a greater chance of a supply disruption. The second factor is the declining dollar. Simple math as a result of the Fed action: it takes more dollars to buy a barrel. The third factor is the rising price of gasoline. Whether it is a result of the drought pushing up ethanol prices or the refinery fires from July, gasoline is pressing higher.

The rise of financials and materials is a direct result of the Fed telegraphed willingness to play ball. As the Fed goes into the market and buys up mortgage-backed securities, the financials are able to shed off some of their risk. Despite the drag that low interest rates will have on the earnings power of the banks, the likelihood of a large bank defaulting due to the credit crisis is a thing of the past. Of course, they can surely find ways to blow themselves up in other ways.However, for XLF, currently $16.2, its path back to pre-bubble levels of $38 has yet to begin. As risk is removed and new lending paradigms take shape, we'll soon be able to understand what the true earnings power of the banks and lenders will be; and right now, the market thinks it is going to be better than it is today.
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