The stock market lost ground last week after five consecutive weeks of gains. The selling began on Wednesday, following the attacks by Islamist extremists in Brussels. Yet, the losses were modest and orderly. Momentum had been waning in the latter weeks of the recent advance; so the pullback was roughly in line with what might have been expected anyway after a quick 10% advance. For the most part, those companies that led on the way up were the ones that sold off the most last week.
The charts below provide a good picture of the market’s performance below the surface. The first shows the performance of the S&P 500 major industry sectors over the past six weeks (from one day after the Feb. 11 market bottom to March 24). The other shows the year-to-date performance for those same sectors.
Leading the way for the past six weeks have been the so-called “risk-on” sectors – technology, materials, consumer discretionary industrials and energy – all posting gains of better than 10%. Bringing up the rear were the “risk-off” sectors: consumer staples, health care, telecom services and utilities, which posted still quite respectable gains of between 4.5% and 7.8%.
Surprisingly, those solid and consistent sector returns over the past six weeks have skewed the year-to-date picture. Nearly 20 percentage points separates the year-to-date winning and losing sectors. Despite underperforming during the recent market rebound, this year’s winners to date are still telecom services and utilities, with gains exceeding 13%. The clear losers have been financials and health care with declines of 6.5%. In between on this performance barbell are the “risk-on” sectors that have led the market since mid-February. Strong gains over the past six weeks have more than erased the preceding losses for the industrials, energy, materials and technology sectors, leaving most of them with modest year-to-date gains.
This has, for the most part, been a “junk” rally. Those stocks that were hurt the most in the first weeks of the year (and, for many, for most of 2015) have recorded the strongest returns during this late winter rally. In the high yield corporate bond market, for example, CCC-rated credits – the junkiest of the junk – have outperformed the broader non-investment grade market by about 400 basis points (12.8% vs. 8.8%, according to my calculations), but roughly one-third of that outperformance was due to the higher yield on CCC-rated bonds.
CCC bond yields have declined by about 200 basis points over the past six weeks to about 18.8%, according to Merrill Lynch, so investors still view them as dicey. The same can be said about the “junk” stocks, which are up the most in the past six weeks, but remain well below their 2014-2015 highs.
If it were not the final week of the 2016 first quarter, it would not be surprising to see the stock market give back a little more of its recent gains. If the market does sell off next week or in early April, it would be disappointing if last week’s market action continues (i.e. if the recent winners continue to lead the decline). Instead, it would be more constructive if there was some market rotation, with the YTD losers gaining some ground and the YTD winners giving back some of their gains.
Most notably absent from the list of market leaders are the financials. That is a little surprising, since Jamie Dimon jumpstarted the rally by buying $26.6 million worth of J.P. Morgan Chase stock right at the market bottom on Feb. 11. Assuming that he bought at or near the lows, Mr. Dimon’s stock purchase has outperformed the market in the ensuing six weeks and one-day. But take away that one day – Feb. 12 – when JPM stock gained 8.3% on the news, and Mr. Dimon’s purchase has underperformed the market. Since Feb. 12, JPM is up 3.5%, while the S&P 500 is up 9.2% and the S&P 500 Financials are up 9.3%.
Although they have participated in this rally, financial stocks are still among the worst performers year-to-date. Global sentiment about the banks continues to be downbeat as a result of geopolitical concerns, economic weakness especially outside the U.S. and the heavy hands of central banks and other regulators. Without leadership from the financials, the stock market will probably remain range bound at best.
March 27, 2016
Stephen P. Percoco
Lark Research, Inc.
P.O. Box 1543
Linden, New Jersey 07036