Sector Rotation Off July Low - The Epitome Of Strength

If you ever wanted to see an example of rampant bullish strength in terms of the Sector Rotation model, look no further than these charts, which show the powerful move up in the broad market since the July 7, 2009 lows to the recent October highs.

Let’s first start with an absolute performance chart of sector returns:

We see that the S&P 500 rose almost 23% over the last three months, and every single sector “offensive” or “bullish” sector outperformed the S&P 500 (^GSPC).

The three “laggards” are who we would expect, as they come from the “Defensive” groups - Consumer Staples, Health Care, and Utilities.

Energy - thanks to a recent surge in Crude Oil prices - has been the biggest gainer since early July, rising almost 34% followed closely by Financials, Materials, and Industrials - also turning in plus 31% returns.

Now let’s take a different look as to how these returns compare “relative” to the S&P 500 Index

“Relative” performance chart of sector returns:

Now we can discuss “outperformance” and “underperformance” to the S&P 500.

There’s a small ‘fly in the ointment’ which you might miss at first glance.

The weakest ‘gainers’ came from both Consumer Discretionary (Retail) and Technology - these are early cycle leaders, and the fact that they aren’t the top performers adds a little concern to the otherwise bullish results.

When Energy is the top performer relative to other sectors, that’s generally a ‘bad’ omen and signals a market top is near… higher energy prices occur late in a cycle and serve as a “tax” on everyone.

Other than that, we see relative weakness as expected in the “Defensive” group, with each underperforming by around 10% each.  This is not to say they lost money since July, but that their performance was not as great as the S&P 500, meaning you would have made more money in “Offensive” sectors during a market rise.

So the sector rotation model seems to flashing “late cycle” readings, which is corresponding with a grossly overextended market.

Thus, bullish caution is warranted.

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