Even though the S&P 500 is still only 1.5% from all-time highs, the deteriorating breadth has continued over the past few weeks. Bespoke Investment pointed out the recent weakness in the industrials sector, mostly a result of weak earnings reports:
As shown below, just 39.1% of stocks in the Industrials sector are currently above their 50-day moving averages, and the sector has fallen into extreme oversold territory after trading above its 50-day just a week ago.
(Note that the Consumer Staples sector has been falling apart as well, but it’s not as concerning since it’s a defensive sector.)
What stands out is that telecom, health care, and utilities are the strongest sectors. All 3 of those sectors have historically been defensive, and that gives the impression that investors are gradually rotating into more defensive issues. Add the nearly 10% underperformance of the Russell 2000 vs. the S&P 500 year-to-date, and the picture for risk appetite looks uninspiring at best.
Looking at overall breadth for the U.S. market, the evidence is building that the rally is thinning out. The percentage of stocks above their 200 day moving average is now only 59%, even though the S&P 500 index is more than 5% above its 200 day ma:
The weak breadth in the market is not exclusive to the NYSE. We discussed the weak Nasdaq breadth in Friday’s post on the Nasdaq 100 index:
For an illustration of just how few Nasdaq stocks are making a new 52 week high, even as the Nasdaq index continues to make new highs, here is a chart from Dana Lyons (full post here):
As we discussed, the mega caps are clearly driving the rally over the past couple of months, as smaller issues lag.
Finally, it’s worth noting that options traders globally are gradually starting to price in higher implied volatility across asset classes. While the average 3 month implied volatility of most assets has been below the 52 week average for the past 2 months, the situation has changed in the past week:
Implied volatility in most major equity indices (outside of the Nikkei) is now near the 52 week average.
Given the weakening breadth, defensive sector and large cap outperformance, and the historically low level of implied volatility, we are still holding the long Sept VIX structure, anticipating higher volatility in the next 6 weeks.