GROWTH STOCKS ARE CARRYING MARKET HIGHER -- THAT'S MAINLY BIG TECHS -- VALUE STOCKS ARE LAGGING BEHIND -- THAT'S MAINLY FINANCIALS AND ENERGY -- % OF STOCKS ABOVE 50- AND 200-DAY AVERAGES NEED TO START CLIMBING
GROWTH STOCKS ARE LEADING THIS YEAR'S STOCK RALLY... The S&P 500 and the Nasdaq hit new record highs yesterday, and the Dow isn't far behind. Large parts of the stock market, however, are lagging behind. That's not necessarily a good thing. The stock market is stronger when most of its stocks are rising along with it. Which brings us to the divergence between growth and value stocks. The 2017 stock rally has been dominated by growth stocks. Chart 1 shows the Russell 1000 Growth iShares (IWF) surging to a record high this week. The IWF/S&P 500 relative strength ratio (histogram bars) shows the growth ETF outpacing the SPX by a wide margin this year. Since the start of this year, the IWF has gained 14% versus a 7.8% gain in the S&P 500. Technology is the biggest part of the IWF with a top weighting of 33%. And the tech sector is the market's top 2017 performer with a gain of 17%. Five of the biggest IWF stocks are in technology and account for 21% of the IWF. They include Apple, Microsoft, Amazon, Facebook, and Google. And, not surprisingly, that's mainly what's driving the stock market to new heights. The big question is whether that's enough to keep it going. That's because value stocks are not participating in the current rally.
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Chart 1
VALUE STOCKS ARE LAGGING BEHIND ... The solid line in Chart 2 shows the Russell 1000 Value iShares (IWD) trading well below its early March peak. Its relative performance is even worse. The histogram bars show the IWD/SPX relative strength ratio plunging since the start of the year to the lowest level since last summer. The IWD is up 3% this year while the S&P 500 has risen nearly 8% (while growth stocks are up 14%). This year's falling ratio marks its worst relative performance since 2015. It seems safe to say that the market is stronger when value stocks are rising along with it. Right now, they're not. The two biggest problems in the IWD are financials and energy. Financials are the biggest portion of the IWD with a sector weight of 26%. Energy is second at 11.5%. [Healthcare is third at 11%]. Energy weakness is a function of a weaker oil prices. Financial weakness is more a symptom of falling bond yields. And that, I suspect, is the bigger problem. In addition to the obvious fact that a large portion of the stock market isn't hitting new highs, there's the question of why. Growth stocks, which offer above average returns, attract money in a slow growth environment. Value stocks, which are viewed as being undervalued, need a stronger economy to thrive. Their weakness is a warning sign that investors aren't as optimistic as rising stock indexes would suggest.
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Chart 2
SOME THOUGHTS ON MARKET BREADTH... Markets seldom run into serious problems as long as market breadth remains strong, as it is now. Chart 3 shows the NYSE Advance-Decline line trading at a record high. This is the most traditional way to measure market breadth. Chart 4 plots the NYSE Common Stock Only Advance-Decline line. I personally prefer that version because it's a purer measure of how stocks are doing. It has yet to hit a new high to confirm this week's record high by the S&P 500, but it's pretty close. No real problems there so far. Some other measures of market breadth, however, aren't as strong.
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Chart 3
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Chart 4
% NYSE STOCKS ABOVE 50-DAY MOVING AVERAGE IS LOWER... In a bull market, most stocks trade above their 50-and 200-day moving averages. And that is the case at present. But the numbers are slipping. Chart 5 plots the percent of NYSE stocks trading above their 50-day averages. The current reading of 56%, however, is well below the 83% reading at the start of the year. That's a little unusual in a market hitting record highs. Chart 5 shows, however, that a pullback near 50% isn't that serious. More serious drops were seen at the start of 2016 and just prior to last November's election. It seems safe to say, however, that the current market rally will look stronger when the blue line starts rising again. A move above its April high near 67% would be a positive sign.
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Chart 5
% OF NYSE STOCKS ABOVE 200-DAY AVERAGE IS ALSO DOWN ... An even more important breadth measure is the percent of NYSE stocks above their 200-day moving average. That's the red line in Chart 6. The 200-day average distinguishes between stocks in major uptrend or downtrends. After peaking at 76% at the start of March, the line slipped to 60% in May before rebounding to its current reading of 65%. That's still well above its November trough of 55%. The converging trendlines also make the drop since last September look like a consolidation pattern in an ongoing uptrend. The two previous drops in the red line (last June and autumn) coincided with pullbacks in the S&P 500 (gray line). The recent drop, however, has happened with the S&P hitting a record high. That's unusual. The red line doesn't at present pose any serious threat to the market's uptrend. The market will, however, look a lot stronger when the percent of stocks above their 200-day average starts rising again. I suspect there are a lot of value stocks accounting for the recent pullback in both moving average measures. That includes financial stocks.
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Chart 6
FINANCIAL SPDR STILL TESTING CHART SUPPORT... Since financials are the biggest part of the value group, it's a good place to look for directional clues. The daily bars in Chart 7 show the Financial Sector SPDR (XLF) stabilizing above chart support along its 2017 lows. Its falling relative strength line (top of chart) reflects the underperformance of the sector over the last three months. The XLF lost -3% versus a 2% gain in the S&P 500 since the start of March. Banks lost -6%. The good news is that the XLF is trying to clear its 50-day average. That would be a positive sign. But it also needs to clear its late April peak near 24. That would give a boost to value stocks and the market in general. But it will probably need higher bond yields to accomplish that.
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Chart 7
BOND YIELDS RETEST APRIL LOW... After soaring following the November election to the highest level in two years, Treasury bond yields have been in decline. After forming twin peaks in December and March, Chart 8 shows the 10-Year Treasury yield retesting its April lows (see circles). That sets up the possibility of a "double bottom". The proximity to its 200-day average also suggests that a bottom in yields may be at hand. To confirm that, however, the TNX would need to clear its May peak near 2.42%. That would give a boost to financial shares, and banks and insurers in particular. And it would help lift the Russell 1000 Value iShares shown in Chart 2. That would help broaden out the number of stocks participating in the current market uptrend.
