SMALL-CAPS LAG SINCE EARLY FEBRUARY -- FINANCE SECTOR PERFORMANCE ALSO FLATTENS -- CONSUMER DISCRETIONARY SECTOR LAGS SINCE JANUARY -- IWM CONSOLIDATES AFTER GAP -- TREND STRENGTH INDICATOR REACHES AN EXTREME FOR S&P 500
SMALL-CAPS LAGGING SINCE EARLY FEBRUARY... Link for todays video. After leading the stock market from December 19th until February 3rd, small-caps have lagged the broader market the last 2-3 weeks. Chart 1 shows the performance for five major index ETFs since January (year-to-date). IWM was leading the charge with the biggest gain on February 3rd, but the performance line turned flat since then as IWM struggles (green line). In contrast, the performance lines for the S&P 500 ETF (SPY) and Nasdaq 100 ETF (QQQ) continued higher. Even though the major index ETFs remain in clear uptrends, relative weakness from small-caps suggests that this bull run is getting tired. Also note that the major index ETFs are up substantially the last seven weeks and we have yet to see a correction or pullback.
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Chart 1
FINANCE SECTOR PERFORMANCE ALSO FLATTENS... Chart 2 shows the performance for the four offensive sectors since December 20th. For the record, the Technology SPDR (XLK), Consumer Discretionary SPDR (XLY), Finance SPDR (XLF) and Industrials SPDR (XLI) are the offensive sectors. Relative strength in three of these four is bullish for the market overall. The Consumer Staples SPDR (XLP), Healthcare SPDR (XLV) and Utilities SPDR (XLU) represent the defensive sectors. All four offensive sectors are up sharply with finance showing the biggest gain by far. Even so, note that the performance of XLF exceeded 20% the first week of February and then turned flat the last two weeks, which is similar to what we are seeing with IWM above. Relative weakness in this key sector suggests that the leader is tiring.
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Chart 2
CONSUMER DISCRETIONARY SECTOR LAGS SINCE JANUARY... Chart 3 shows relative performance for the four offensive sectors. Instead of absolute performance, this chart shows each sector relative to the S&P 500 ETF using a ratio chart (e.g. XLK:SPY). First, notice that the XLY:SPY ratio peaked way back on January 19th. This means the Consumer Discretionary SPDR (XLY) has been underperforming the market for over four weeks. Second, the XLF:SPY and XLI:SPY ratios peaked the first week of February and both have been underperforming the market for over two weeks. The XLK:SPY ratio is the only one hitting new highs this week and remaining in a clear uptrend. Technology is carrying this market as the other three start to lag.
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Chart 3
IWM CONSOLIDATES AFTER GAP... Chart 4 shows the Russell 2000 ETF (IWM) surging above 82 with a gap on February 3rd and then consolidating the last 12 trading days. On the bullish side, the gains are holding and this could be just a rest within the uptrend. A break above the February highs would signal a continuation higher. On the bearish side, there was no follow through to the gap and the gap was actually filled. A move below the mid February lows would break first support and argue for a correction. Should a correction unfold, I would mark first support in the 75-76 area. This zone stems from broken resistance and the flattening 200-day moving average. For retracement fans, a 50% retracement of the November-February advance would extend to this zone as well.
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Chart 4
The indicator window shows the performance of IWM relative to SPY with the Price Relative, which is a ratio of the two (IWM:SPY). This ratio rises when IWM outperforms and falls when SPY underperforms. IWM has been outperforming since early October, but the ratio slipped the last 2-3 weeks. Trendline support is near and a break would signal further relative weakness in small-caps. Chart 5 shows the S&P 500 ETF for reference.
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Chart 5
TREND STRENGTH INDICATOR REACHES AN EXTREME FOR S&P 500... Developed by the legendary Welles Wilder, the Average Directional Index (ADX) measures the strength of the trend, regardless of direction. Chart 6 shows the S&P 500 with ADX, Plus Directional Movement (+DM) in green and Minus Directional Movement (-DM) in red. For now, I will only focus on ADX, which is the thick black line in the indicator window. Over the last four years, this indicator has been above 40 only six times with this month marking the sixth occurrence. While a move above 40 is indicative of a strong trend, it is also indicative of an overextended trend. During the 2008-2009 downtrend, the index bounced or firmed soon after ADX exceeded 40. ADX moved above 40 in late May 2010 and the index bottomed in early July. ADX moved above 40 in mid August and $SPX began a bottoming process that extended to early October.
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Chart 6
As you may have noticed, readings above 40 during uptrends are relatively rare. In fact, the advances from March 2009 to May 2010 and July 2010 to May 2011 were not enough to push ADX above 40. We must go back to 2004 to find such occurrences. Chart 7 shows ADX exceeding 50 in January 2004 and 40 in November 2004. While these readings showed a strong uptrend, they were also extreme enough to suggest a mature uptrend. Note that the index corrected from February to August 2004 and from December 2004 until April 2005.
