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MARKET DEVELOPS SOUR SPOT

Within the context of the US stock market, in the last decade the “smart money” has been in mid-cap stocks. So with all US stocks trading at the high end of their historic valuations, it seems strikingly suspect when what was once the market’s darlings – mid caps - begin to lag the overall market significantly. Yet, that is exactly what is going on at the present time. What mutual fund marketers recently referred to as the market’s “sweet spot” has now turned into a “sour spot.” Meanwhile, the Dow is making all time highs. It makes one wonder whether the smart money is selling under the cover of bullish public sentiment and headlines.

The chart below provides a performance comparison between small caps (Russell 2000), mid caps (S&P mid-cap ETF), and large caps (S&P 500 index). As you can see, over the last 11 years, the mid cap ETF has outperformed the small and large caps by almost 100%. Clearly, the smart money was long mid-cap stocks. (Blue = S&P Mid Cap ETF, Red – Russell 2000, Green = S&P 500.)

Over the last 5-years, the smart money in the US stock market had a choice of either small or mid cap stocks, as either of these indices outperformed the S&P 500 by a very wide margin. Whereas the S&P 500 gained about 30%, mid and small caps gained over 65% as “eye-balled” from the chart below.

In the last 2 years, this trend held true again with small and mid caps virtually tied with each other while large caps were lagging very much.

And similar performance has been shown to occur over the last year, too.

Over the last 6 months, it is no surprise that the market has turned more defensive in that large caps have been outperforming small and mid caps.

It would seem logical that mid caps’ performance would be somewhere in between that of small and large caps. And that is why the performance of the last three months appears to be out of whack. Whereas both small and large caps have rallied over the last three months producing gains of more than 6%, the mid caps have lagged badly, producing gains of less than 4%. Considering the 10+ years out performance of mid caps over both small and large caps, may be this is a sign of the smart money “getting out.” Over the last few months, the market seems to have developed a “sour spot” with regard to mid cap stocks.

Today’s Market

While the Dow was up 0.25%, near an all time high, the Russell 2000 finished about even for the day and the mid caps, the apparent new market laggard, finished down 0.33%. Tomorrow is the last trading day of the quarter so you can bet there will be chicanery in the small cap sector.

Precious metals have recovered some of their losses over the last week; yet today, the HUI finished down 3/4 of a percent. Short and shallow corrections may suggest a beginning of a 3rd wave up, so let’s see how this correction “acts.” 

For the last 3 months the long bond has rallied without a significant correction. They then staged a rally that was steeper than the existing uptrend before beginning to correct over the last 3 days. It takes longer than 3 days to correct a 3 month rally and that is why I’m expecting lower prices for the long bond over the next couple of weeks.

Martin Goldberg

Copyright © 2006 All rights reserved. Martin F. Goldberg, MS, P.E. Market Analyst Expert Page Commentary Archive Email

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