Global stock markets, almost every single one, have been hitting on all cylinders lately. In fact, some of the best recent performance has been in areas of the market – cyclicals like energy and financial services – that have not participated in the rally until very recently. I have not been a proponent of shifting money from “growth” to “value” over the past several months because I regarded cyclicals as a trading opportunity within the context of a secular growth bull market. Low interest rates, benign inflation, high debt levels, and mediocre economic growth favor the small subset of firms that can grow without an economic tailwind.
That said, we are getting a nice economic tailwind now as GDP recovers sharply from the 2Q20 trough. Though growth stocks have continued to do well and are in a bull market from a technical standpoint, value/cyclicals have broken out and over the next several months will probably offer greater profit potential. Advisors should ask themselves whether a tactical move for perhaps less than six months is in keeping with their value proposition to clients, but if one looks at the charts of materials, mining, and financial services there may well still be 20% or more upside potential to get back to prior peaks on an inflation-adjusted basis. In the case of energy stocks, in fact, they would have to more than double to reach their prior peaks. Real estate is the one industry that broke down sharply but still has not yet shown any technical signs of a rebound.
I have been more interested in small cap as a factor than value as a factor over the last several weeks because it is easier for me to observe small cap tech outperforming large cap tech and small cap banks outperforming large cap banks that it is for me to find value industries doing better than (growth-oriented subsectors like) semiconductors or biotechnology or cybersecurity or clean energy. From a relative performance standpoint, small cap tends to work best as the economy comes out of recession, while value usually works best when an economic recovery has fully taken hold and raw materials prices and interest rates are clearly in uptrends.
The parabolic charts of disruptive technology ETFs like ARKK, ARKG, QCLN, IPO, LOUP, etc. are super-impressive to look at but the relative strength numbers are frightening. Almost all of these have RSI measures above 80, indicating that they have gone a whole lot of days without a correction lasting more than a few hours or so. ARKG (ARK Genomic Revolution) has an RSI of 83.5 and its current price of $95.40 is light years above its sharply upwardly sloping 50 day moving average ($73.40). How much more overbought can you get? Be careful. We all know “the trend is your friend”, but when the CNN Gear & Greed Index is showing Extreme Greed one needs to understand that it rarely gets better than this.
Figure 1: Greed and Fear Index
One potential catalyst for a correction, and one that would trouble growth stocks more than value stocks, is the possibility that the 10-year note yield will break back above 1%. It was March 4th when the 10 year plunged through 1% and stayed there (with the exception of a moronic 3 day yield surge March 17-19 as foreign banks desperately sold U.S. bonds in order to build up their currency reserves as the dollar soared). Low rates and growth outperformance have been strongly positively correlated. If the 10 year breaks and holds above 1%, that will probably reinforce the desire of traders to make tactical shifts away from the big tech stocks. I am personally skeptical that the 10-year yield will make a meaningful move above 1%, but there is no mistaking a seasonal trend for bond yields to rise at year end and into January as investors typically expect the coming year to show more economic growth than the year just ending.
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