STOCKS ARE STILL THE BEST GAME IN TOWN -- SMALL-CAPS AND MICRO-CAPS START TO OUTPERFORM -- THE JANUARY EFFECT GETS EARLIER AND EARLIER -- LIVE DEMO OF SEASONALITY TOOL -- OFFENSIVE SECTOR PERFORMANCE SUPPORTS THE BULLISH CASE
STOCKS ARE STILL THE BEST GAME IN TOWN... Link for today's video. Stocks may seem overbought and ripe for a corrective period, but the uptrends look solid and the seasonal patterns are bullish for December. Today's commentary will look at the "participation factor" and the "January effect". Among the broad market ETFs participating in the uptrend, note that five major index ETFs recorded fresh 52-week highs last week. These include the Dow Diamonds, the Nasdaq 100 ETF, the Nasdaq 100 Equal-Weight ETF, the Russell 2000 ETF and the S&P 500 ETF. The S&P MidCap 400 ETF and the S&P 500 Equal-Weight ETF are lagging a bit because they failed to exceed their mid November highs. Nevertheless, these two indices recorded 52-week highs in mid November and have yet to actually break down. PerfChart 1 shows that stocks are still the only game in town this year, which is what the Fed wanted all along. The Fed often gets what it wants and it is unwise to fight the Fed. Returning to our PerfChart, notice that SPY, QQQ and IWM are easily outperforming the other assets on a year-to-date basis. PerfChart 2 shows performance over the past month and only four asset classes show gains. Again, SPY, QQQ and IWM extended their uptrends as they outperformed Treasuries, oil, the Dollar, the Euro and Gold.
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Chart 1
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Chart 2
SMALL-CAPS AND MICRO-CAPS START TO OUTPERFORM ... We are also seeing renewed relative strength in small-caps and micro-caps, which represent the riskier end of the stock market. Small-cap participation is picking up and this is also positive for the market overall. Small-caps are more domestic oriented and provide a good barometer for conditions in the US. Chart 3 shows the Russell 2000 ETF (IWM) breaking flag resistance in mid November and extending above the October highs. The indicator window shows the price relative turning up over the last two weeks as IWM starts to outperform SPY once again. Perhaps the January effect is starting already (details below). Micro-caps are also starting to outperform. Chart 4 shows the Russell Micro-cap ETF (IWC) breaking out and recording a fresh 52-week high. Micro-caps are stocks with very small market capitalizations (less than $250 million) and these stocks are at the far end of the risk curve.
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Chart 3
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Chart 4
THE JANUARY EFFECT GETS EARLIER AND EARLIER... The "January effect" refers to the propensity for stocks to outperform in January and for small-caps to outperform large-caps in January. Put another way, stocks tend to rise more in January than most other months and small-caps tend to rise even more. Chartists looking to test these theories can put our new seasonality tool to work. As mentioned by Chip in ChartWatchers on November 23rd and by Gatis in his blog on November 29th the new seasonality tool gives StockCharts users the power to measure seasonal tendencies for any symbol. Today's video includes a live demo of this tool in action. Chartists can even measure "relative" seasonality and compare the performance of one asset against another. Let's look at seasonal tendencies for the stock market first and then relative tendencies for small-caps. Chart 5 shows monthly seasonal tendencies for the S&P 500 over the last twenty years. Notice that April and December show the highest tendency to advance (75% and 74%, respectively). Second, notice that the average gain for April is 1.7% and the average gain for December is 1.6%. This study suggests that the "January effect" has moved up a month and December is the month to watch. Also notice that the market tends to rise in April, which is right before the bearish six month cycle begins in May (sell in May and go away).
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Chart 5
Chart 6 shows relative seasonality by comparing the performance of the Russell 2000 (small-caps) to the S&P 100 (large-caps). Notice anything special? December is by far the strongest month for small-caps because the Russell 2000 outperformed the S&P 100 seventy four percent of the time in December. Moreover, December outperformance averaged a whopping +2.4%, which is also the strongest month for outperformance, by far. This study does indeed suggest that the January effect is really in December and the chances are pretty good that small-caps will outperform large-caps this month. In fact, as shown by the prior charts, small-caps have already gotten off to a good start the last two weeks, which means we may one day have a "November effect"!
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Chart 6
OFFENSIVE SECTOR PERFORMANCE SUPPORTS THE BULLISH CASE ... The offensive sectors are participating in this uptrend and their leadership supports the uptrend in the stock market. Offensive sector performance is important because relative weakness in the consumer discretionary and finance sectors preceded the 2007 top. PerfChart 7 shows three-month performance for the nine sectors and the S&P 500 in October 2007. Notice that the Consumer Discretionary SPDR (XLY) and the Finance SPDR (XLF) were actually down over this period. In fact, they were the only sectors showing a loss.
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Chart 7
As PerfCharts 8 and 9 show, the offensive sectors are leading on the one and three month timeframes, which is what a healthy market should show. I divide the nine sector SPDRs into three groups: offensive, defensive and energy-materials. The consumer discretionary, industrials, technology and finance sectors are the offensive sectors and should lead during a broad market advance (XLY,XLI,XLF,XLK). The healthcare, utilities and consumer staples sectors are defensive and outperform when the market is in risk-off mode (XLU,XLP,XLV). In addition to relative strength. note that all four offensive sectors recorded new highs last week, as did the healthcare sector (XLV). New highs and relative strength indicate that the structural underpinnings for the broad market uptrend are sound. Even though no two tops are the same, there are simply no red flags or pockets of weakness to suggest otherwise.
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Chart 8
