May 30, 2018

Did you ever notice that sometimes you are presented with an alternative way of thinking that seems so logical, it should have been obvious in the first place? Consider the speed camera lottery in Sweden. The camera tracks your car and automatically enters you into a lottery if you drive under the speed limit. The jackpot is paid out from the fines collected from all the speeders. The average speed dropped 22%.

I think an idea like that makes perfect sense. “Incentivize people to do right,” as opposed to punishment. It makes so much sense that I wonder why it’s not more widely adopted. This is how I felt when I began to look at the market through the lens of what big institutions are doing. To me, if there is huge accumulation in a sector, then the logical place to look for winners is in the best performers of that sector. This became my leading school of thought. Now compare this type of analysis to the conventional “follow the news” method of trying to understand markets. To me, it’s a no-brainer – just like a speed lottery.

Looking at leading and lagging sectors is typically where we will find the births of new trends and deaths of old ones. This usually happens well in advance of anyone on CNBC talking about it. For instance, Information Technology began perking up and seeing heavy institutional buying in November 2016. The news was still squarely focused on the 2016 presidential election results and the geopolitical climate, but those who paid attention caught the huge bull trend in Infotech. The leaders of the sector broke out ahead of the whole sector and lead their groups higher. XLE, a proxy for Infotech, shot up over 45% since then. The same types of sector leadership (and leadership within the sectors) have happened across all sectors.

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

So, what is leading and lagging now? Energy has been front and center since April. We have seen leading stocks emerge in Oil & Gas Exploration stocks and refiners. These stocks led Energy higher, and we saw an immense push upward, but I said in last week’s issue that the sector was overbought and overheated. I expected a near-term drop, and that’s exactly what we got. Energy this past week was rewarded with the dubious distinction of “worst” sector. The S&P 500 Energy Sector was down -4.54% for the week.

Those that took the lead were the defensive rate-sensitive sectors. Utilities and Real Estate were the two strongest sectors by far with +3.08% and +2.01% performances, respectively. Information Technology and Consumer Discretionary were the next two strongest sectors. These are sectors I personally like to see leading the market higher, as they are strong engines for growth.

Energy is Taking a Much-Needed Breather

Energy is taking a much-needed breath during this wave of profit taking. As the Memorial Day weekend marks the unofficial start of summer, it will be interesting to see how the sector performs in the typically strong summer months. Energy, due to its close tie with physical commodities, is cyclical and the hot summer usually swells energy demands for driving on vacations or cooling homes. Perhaps this small energy reset will just be a burp that the sector needs to continue its trajectory higher. As we can see, despite the violent down-week, the Energy sector still remains positive for the month-to-date, and the sector is still +9.09% for the last three months – the strongest performer by far in that time span.

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

Recent sector performance helps illustrate the fact that, despite an overall drop in volatility, we are still in a choppy market. The VIX has plunged from the high 30’s in February, through the mid 20’s in March, to just over 13. We have seen buying resume in leading stocks and sectors. This bodes well for the bull case, but we are also seeing some wild week-to-week changes in the sectors. The market is still a choppy place.

Sometimes if we approach the same thing from a different vantage point, the outcome can seem more obvious than the traditional way. Speeding is punitive in the States. In Sweden, it’s a game of seeking a reward for doing the right thing. The media often focuses on creating headlines to explain stock markets. Focusing on what big institutions are buying can offer a unique perspective. This buying can be observed directly though sector rotations. Energy has been hot for months and this past week it was punished.

Is this the beginning of the end for Energy’s run? Or is it just a breather during a long, hot run? Does what the news says jibe with what we are seeing in terms of institutional buying and selling? Does the headline fit the backdrop of sector leaders and laggards? The answer may depend on the perspective and the way we think about it. It’s all about what you do with the information you analyze.

It may be like Jimi Hendrix said, “Now if 6 turned out to be 9, I don’t mind.”

What will you see?

About The Author

Jason Bodner

Jason Bodner writes Sector Spotlight in the weekly Marketmail publication and has authored several white papers for the company. He is also Co-Founder of Macro Analytics for Professionals which produces proprietary equity accumulation/distribution research for its clients. Previously, Mr. Bodner served as Director of European Equity Derivatives for Cantor Fitzgerald Europe in London, then moved to the role of Head of Equity Derivatives North America for the same company in New York. He also served as S.V.P. Equity Derivatives for Jefferies, LLC. He received a B.S. in business administration in 1996, with honors, from Skidmore College as a member of the Periclean Honors Society. *All content of “Sector Spotlight” represents the opinion of Jason Bodner*


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