The death of the bull market in U.S. stocks is exaggerated.
I base this upbeat assessment on a comparison of U.S. market sectors’ recent returns and the regular cycle that they often undergo during bull markets. Some typically do particularly well at the beginning of a bull market, for example, while others shine as bull markets are coming to an end.
Recent market action doesn’t fit the typical pattern of late-bull-market relative strength: Many of the sectors that normally do the best at the end of bull markets have been laggards, just as many of those that do the worst at the end of the bull markets have instead been stellar.
The last time I used the sector relative strength rankings to grade the market was in early April, more than four months ago. I concluded then that the rankings were more consistent with an emerging new bull market than a correction in a bear market. The S&P 500
SPX
rose almost 12% from the date of that column to the late-July high, while the Nasdaq Composite
COMP
gained close to 20%.
The accompanying chart shows the trailing three-month returns of the 11 S&P 500 sectors. The arrows that identify the best- and worst-performing sectors at the top of past bull markets are based on a ranking from Ned Davis Research of average returns over the final three months of all bull markets since 1974.
Notice that two of the three sectors that typically perform the worst at the end of bull markets — Energy and Communication Services — have recently been among the best performers. And two of the three sectors that normally perform the best at the end of bull markets — Consumer Staples and Real Estate — have recently been among the worst performers. None of these rankings is consistent with the historical tendencies for the end of a bull market.
“ Even if this upbeat forecast of the sector relative strength rankings proves to be accurate, the stock market could still suffer a severe correction. ”
There are a couple of warning signs. Utilities’ recent market-lagging performance is consistent with a late-stage bull market, as is the market-beating performance of Consumer Discretionary. To put these counterexamples in context, consider the rank correlation coefficient between a ranking of all 11 sectors’ trailing three-month returns and the historical average for the end of bull markets.
This statistic ranges from a theoretical maximum of 1.0 (when the two rankings are identical) to minus 1.0 (when the rankings are perfectly inverse). This rank correlation coefficient currently stands at minus 0.01, meaning that there is no statistically detectable correlation between how the sectors are currently performing and the end of the typical bull market.
Even if this upbeat forecast of the sector relative strength rankings proves to be accurate, the stock market could still suffer a severe correction. In fact, further weakness wouldn’t be surprising, as I wrote earlier this week. That’s when I reported that one leading analyst is predicting that the correction would take between 8% and 13% off the market averages, and so far the S&P 500 is 4% lower than its late-July high.
Mark Hulbert is a regular contributor to MarketWatch. His Hulbert Ratings tracks investment newsletters that pay a flat fee to be audited. He can be reached at [email protected]
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