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You Don't Need Financials


Sector has too many eyes watching.


Many will agree that as go the financials, so goes the rest of the market. I'll stick with the view that this relationship is neither good nor bad, but rather different. Entirely.

Click to enlarge

If you look above at the past five years, with the S&P 1500 over the S&P financials sector you can see a very distinct change. I'm not smart enough to join the debates on what's hiding on or off balance sheets. My yellow pad and pencil are no match for the fortunetellers in this group.

At my firm we're looking at different numbers, which are hiding from most investors in plain sight – numbers that show simply that the group mattered less and less during this time, as you can see clearly, and will matter even less over the next five years. There are no opinions included, just math.

Break open every $100 in the S&P 1500, or trillions tracking it, and count how many dollars are invested in financials. You'll discover the rest of the market has been telling a very different story inside than on the cover. Consider during the past two years that for every $100 in the S&P 1500, you have seen financials turn $22 into $15. The remaining $78 became $97. That's +25% in nine sectors over one of the most historic two year runs of disasters for the most heavily owned sector, and enough to bring the $100 to $112. I have a difficult time not drawing a different conclusion than one where the market has relied on financials. Their biggest accounting trick has been hiding so much underlying strength elsewhere, but now the math changes. It becomes more difficult mathematically for financials' weakness to conceal any strength in any of the other nine sectors.

Human nature has hardwired even the most objective among us to be thinking of what to do, when to buy, and what to own while math quietly suggests that when selecting a small list of stocks and sectors to buy in a universe of thousands that your performance will be even more influenced by what you actively choose to not own. I'd humbly submit the better question than "Does the market need financials?" would be "Do you?"

With all the talk about the psychology of the market and whether we "need" financials to restore "belief" I'd rather stick to math.

They are significantly less important whether you are a bull or a bear. That's beside the fact that so much of the unknowns are now just the opposite, heavily scrutinized.

K&C Rule #11: When the inputs change so should the outputs.

Where does the market go from here? I care a lot less than most, I suppose, because I don't own it, but if this was helpful for anything I hope it would from an opinion that the most examined clue, financials, has too many fingerprints on it. It was far more important when few were looking than it is now with everybody crowded into the examining room.

No positions in stocks mentioned.
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