INVESTORS ARE ROTATING FROM GROWTH TO VALUE -- MONEY IS LEAVING SOCIAL MEDIA, CONSUMER DISCRETIONARY, AND BIOTECHS INTO BANKS, ENERGY, STAPLES, TELECOM, AND TECH DIVIDEND-PAYERS

HOW TO DEAL WITH AN OVERBOUGHT MARKET... The stock market rally that started in March 2009 recently passed its fifth anniversary. That makes this a mature bull move in need of a period of consolidation or correction. The market is also in its most overbought region since 2007. Chart 1 shows the 14-month RSI line for the S&P 500 trading above the 70 level which is overbought territory. It reached the 75 level near the end of 2013 which was the highest level since the first half of 2007. That suggests that upward progress from here will be more difficult, and increases the odds that the next few months will see either flat or lower prices. The RSI line current sits at 71. A drop below the 70 level would be a warning of an impending correction. The fact that 2014 is a midterm election year increases the odds for a market pullback during the second and third quarters of the year. Historically, the market usually ends the midterm election year on a strong note. The big question for investors is how to deal with a couple of potentially rough quarters without leaving the market. A lot of them appear to be rotating from growth stocks to value stocks.

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Chart 1

VALUE HAS HELD UP BETTER THAN GROWTH ... A market rally is usually led by growth stocks which have higher price-earnings ratios. Those very same stocks, however, are more vulnerable during a market correction. Value stocks, by contrast, are often larger stocks with lower price-earnings ratios. They usually lag behind the market when it's rising, but hold up better during a market downturn. That's what we're seeing this spring. Chart 2 shows S&P 500 Growth iShares (IVW) forming a pattern of "lower highs" between March and April, and falling below its 50-day line. Its relative strength line (top of chart) has fallen as well. That shows underperformance. The IVW has lost -2% since the beginning of March versus an S&P 500 that has been relatively flat. The IVW includes large and mid-cap U.S. stocks with biggest weightings in technology, consumer discretionary, and healthcare sectors (including biotech). Those have been among the weakest sectors this spring. Some of its biggest holdings that have fallen recently include Apple, Google, Amazon, Facebook, and Gilead Sciences. Value stocks have done a lot better.

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Chart 2

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Chart 3

VALUE STOCK ARE HOLDING UP BETTER... Chart 3 shows S&P 500 Value iShares (IVE) hitting new highs during April. It's gained 2% since the start of March, beating the S&P 500 by 2% and growth shares by 4%. That better performance can be seen in the rising relative strength ratio (above chart). The IVE remains above its March high. That's because its biggest sector weightings are in financials (mainly banks), energy, and consumer staples which have been among the spring's steadiest performers. They're also bigger dividend payers which offers more of a cushion under prices. Some of its bigger stock winners include AT&T, Intel, Caterpillar, Wells Fargo, IBM, and Exxon Mobil. Chart 4 shows those stocks in order of strength since March 1. AT&T is up 11%, Intel 8%, Caterpillar 5.7%, Wells Fargo 5.1%, IBM 4.9%, and Exxon Mobil .63%.

Chart 4

GROWTH STOCKS LED DURING FIVE YEAR BULL MARKET... Chart 5 compares the "relative" performance of the S&P 500 Growth iShares (blue line) and S&P 500 Value Shares (red line) to the S&P 500 (flat black line) since the start of 2009. It's clear that growth stocks have done a lot better than value during those five years. Growth stocks outperformed the S&P by 33%, while value stocks did 10% better. The chart also shows value stocks underperforming the S&P between 2009 and most of 2012 (red box), while growth stocks were doing much better. Value stocks did better during the first half of 2013, and again during 2014 (see circles).

Chart 5

Chart 6

2014 ROTATION OUT OF GROWTH AND INTO VALUE... Chart 6 shows their "relative" performance (versus the S&P 500) over the last year. The two relative strength lines show growth leading value (and the S&P 500) during the second half last year as the market rallied to record highs. A major rotation out of growth and into value stocks, however, has taken place since March. That suggests that investors are moving out of market leaders into market laggards that are perceived to be safer. That's not a bad strategy in an overbought market in a dangerous midterm election year.