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Tech Rushes In

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Asset shift may be too much, too soon.

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Over the past few weeks, technology stocks have taken a clear leadership role. That's a positive thing, as stocks in general tend to do better when high-beta sectors like technology are doing better than more-defensive sectors.

It's a good thing until it gets to be too much, too fast, and we've seen a couple of those indications lately. The ratio of Nasdaq volume to NYSE volume exploded to an extremely high level last week, a pretty reliable sign in the past that things have become too heated.

Another one we can point to would be the behavior of traders in the Rydex family of mutual funds. The chart below shows the ratio between assets in the Rydex leveraged long fund (RYVYX) versus assets in the leveraged short fund (RYVNX). The higher the ratio, the more traders are betting on a market rally.


Click to enlarge


While the ratio took a big dip yesterday as traders piled into the short fund after the reversal yesterday afternoon, we can see from the chart that the ratio is descending from a point where the ratio had hit 2.0 (i.e. up until yesterday, there were about twice as many assets parked in the long fund than the short fund).

The red arrows on the chart show times when the ratio reached a very high level, 1.85 or higher. The forward performance in the Nasdaq 100 (^NDX) didn't look so hot, and it wasn't. The one-month forward return in the index averaged -6.1%, with only 13% of days (11 out of 83) showing a positive return. The maximum reward averaged +2.0% over the next month, while the maximum risk averaged -9.2%, more than four times as great.

If we look at three-month returns, it gets even worse. The average return was -12.7% with only 6% being positive, and a risk/reward of nearly 8 times (-16.2% versus +2.2%). That ain't good.

No positions in stocks mentioned.

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