SECTOR ROTATION STUDY SHOWS CONSUMER STAPLES AND HEALTHCARE STILL IN THE LEAD -- CONSUMER DISCRETIONARY AND FINANCIAL PERFORMANCE HAS IMPROVED, BUT NOT ENOUGH TO SIGNAL A MAJOR TURN FOR THE BETTER

MORE ON SECTOR ROTATIONS... I keep getting questions on where we stand on the matter of sector rotation. We've pointed out repeatedly that defensive stock groups like consumer staples and healthcare have become new market leaders. That makes sense in a slowing economy. Earlier in the week, however, I wrote about signs of improvement in consumer discretionary and financial stocks. Some asked if that meant that the market had bottomed and if we had moved into the late stages of an economic slowdown. Let's try and clarify matters. Chart 1 plots this year's top sector leaders. All are plotted relative to the S&P 500 which is the black line. In effect, these are relative strength ratios. Energy (red line) and basic materials (blue line) had been market leaders until the end of June. Both have been dropping along with commodity prices. Two defensive groups that usually pick up the baton are consumer staples and healthcare. Staples (green line) have been outperforming the S&P since last July and are now the market's strongest sector. That's where defensive money usually goes first. Healthcare (pink line) didn't turn up until May when the market last rolled over. It too has become a market leader. [Utilities have tracked energy closely over the last year and peaked with crude oil at the start of July]. Until some other sector takes over leadership from staples and healthcare, we can assume that investors are still in a generally defensive stance.

Chart 1

DISCRETIONARY AND FINANCIALS ARE BOUNCING ... One way we can tell that the market is bottoming is when consumer discretionary and financials assume market leadership. Chart 2 plots those two groups versus the S&P 500 since the start of 2007. Consumer Discretionary (red line) started to act better in January and financials (blue line) in July. However, neither one is even close to crossing the black line (S&P 500) which would signal new market leadership. One way we can tell that things are getting a lot better is when consumer discretionary stocks take over leadership from consumer staples. Tht hasn't happened either. Chart 3 compares consumer staples (black line) to consumer discretionary (blue line) for the last year. The staples SPDR is trading over its May peak. The discretionary SPDR is still in a downtrend and well below its May peak. Chart 4 plots a ratio of discretionary stocks to staples. The discretionary/staples ratio (blue line) is still in a downtrend. The blue line has improved since July. It would have to turn into an uptrend, however, to signal that investors prefer economically -sensitive discretionary stocks to economically-resistant staples. Things have improved a bit since July. But not enough to signal a major upturn.

Chart 2

Chart 3

Chart 4