Is Bad Breadth Unhealthy For Equities?
Equities were up a slight 0.2% in choppy trading during May.
The bigger story is the spread between the S&P 500 and the equal weighted S&P 500. As you likely know, the S&P 500 weights each constituent by market cap, with the most highly valued companies receiving the largest weights in the index. The performance spread between the S&P 500 compared to the equal weight S&P has been increasing since March and now stands at 10.3%.
Most of the performance of the S&P 500 has been from 5 (large cap) stocks—indicating extremely narrow breadth. Long, sustained rallies generally are driven by wide breadth in the market, indicating healthy earnings across a wide swath of sectors. However, the equal weighted index is actually down for the year through May (i.e. all the performance is being driven by a few names). Performance is solely being driven by large cap tech, while other cyclical sectors are increasingly pointing to the possibility of a recession. If the current rally is to be sustained, equity breadth will need to broaden out—indicating better health across multiple sectors.
Meanwhile, during May, the 10 Yr. US Treasury yield increased 23 basis points to 3.64%. The yield curve remains inverted—a signal generally associated with recession. Note however, this signal is not infallible. Nor does it indicate the depth of a downturn. It is possible that we have a brief and mild recession that equities are able to look through.
How will equities resolve their bad breadth? This is a difficult call and much depends on timing. With current bearish institutional investor positioning it is likely that there is at least a short term move to the upside. The key to sustaining the move is improvement in the earnings outlook for cyclical sectors. Additionally, the Fed is hinting at further increases following a June pause. Furthermore, the Treasury is likely to issue over $1.1 trillion in debt over the next 7 months which could hoover all the excess liquidity that has been flowing into equities.
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This market commentary was written and produced by Stableford Capital, LLC. Content in this material is for general information only and not intended to provide specific advice or recommendations for any individual. All performance referenced is historical and is no guarantee of future results. All indices are unmanaged and may not be invested in directly. The views stated in this letter are not necessarily the opinion of any other named entity and should not be construed directly or indirectly as an offer to buy or sell any securities mentioned herein. Due to volatility within the markets mentioned, opinions are subject to change without notice. Information is based on sources believed to be reliable; however, their accuracy or completeness cannot be guaranteed. Past performance does not guarantee future results.
S&P 500 INDEX: The Standard & Poor’s 500 Index is a capitalization-weighted index of 500 stocks designed to measure the performance of the broad domestic economy through changes in the aggregate market value of 500 stocks representing all major industries.