Today's Market WrapUp 04.26.2007 Mon Tue Wed Thu Fri Goldberg Archive Nasdaq
100 to S&P 500 Ratio Approaches Critical Juncture
In this week of technology celebration, the relationship between technology stocks and all stocks is nearing a critical technical juncture. Why is this important? This relationship has been a useful tool with regard to picking important tops and bottoms in the stock market. Bull markets and rallies have been accompanied by out performance of technology stocks. This trend has reversed for bear markets and corrections against the bull trend. Yet in the last couple of months, something seems to have changed where the latest bull run is accompanied by underperformance of tech stocks. The long term relationship is shown in the 10-year weekly chart below. The late 1990’s bull run in the US stock market was accompanied by the Nasdaq bubble - a multi-year timeframe where the Nasdaq 100 outperformed the general market by a factor of over 300 percent. As the market topped in 2000, and then went into a bear market, exactly 100 percent of the Nasdaq out-performance was retraced. Following the October of 2002 bottom, as the market raced up, the Nasdaq 100 raced even faster. But from January 2004 to the present, the Nasdaq 100 has underperformed the general market as represented by the S&P 500. Still the year-end and pre-election rallies have been met with relatively brief periods of Nasdaq out-performance, although the longer term trend has been neutral at best or bearish.
Pulling back even further to the early 1990’s, the Nasdaq 100 out-performance occurred at a reasonable and linear pace from the early ‘90s until mid-1997, and then in early 1998 this trend accelerated into an even steeper incline. Beginning in 2000 an equally steep decline occurred concurrent with a selloff in the US stock market.
Considering 1993 as our “baseline,” today’s Nasdaq 100 to S&P 500 ratio is a full 50% higher today than it was in 1993. Since it is a ratio chart, it represents market participants’ relative preference for Nasdaq 100 stocks versus S&P 500 stocks over a long period of time. It is my opinion that the market is still placing an unreasonable premium on tech stocks. An example of how this can be seen is by the negligible dividends available from Nasdaq 100 stocks. The price to earnings ratio (P/E) is also way higher what one would expect for an index of 100 stocks with so high a market capitalization. This price to earnings ratio is one of Wall Street’s dirty little secrets as you will not find it in Barron’s stock lab or any other such household data source. Below is a shorter term (5-year) weekly chart of the $NDX to $SPX ratio. Since 2003 the Nasdaq 100 has outperformed the S&P 500 in four consecutive year-end rallies. The right edge of the chart shows an easily discernable triangular pattern suggesting short term indecision on the part of traders.
Below is a closer look at the triangle, showing a clear line of support and a line of resistance that is not as clearly defined. Whether and in what direction the trending of this ratio resumes will be important to the overall market and may provide insight as to whether valuations are in the process of eliminating the premium afforded tech stocks, or there will be a resumption of the emotion-driven tech stock leading market.
Today’s Market The market finished neutral today and this can be interpreted as a well deserved rest for a surging market. Volume has picked up again this week thereby confirming the positive trend. If the market were to maintain or increase upon today’s relatively high trading volume and there was little or no upside in price action, that would be bearish. The last 20 trading days has seen the Dow up 18 days and down only 2. This is a tremendously overbought condition that would not provide a low risk entry point in which to buy stocks. If the late February drop put the stock market in the spotlight of the public, the subsequent rally has kept the public positively focused on the stock market. While a correction is perhaps overdue, a good case can be made for a parabolic bullish run. Such behavior gripped the Nasdaq market in late 1999 as the public capitulated with a plea to “just get me in,” and the bull market went a lot further. How much resistance to this reckless behavior was offered in professional circles at that time? It couldn’t have been very much resistance as you can see the results below and remember the psychology and mood. One does not have to look very far to see that some of the staunchest contrarians are even paying homage to Dow 13,000. While stock market wives’ tales and seasonality are being followed as if they were gospel, this analyst has not heard a peep about “13” being a bad luck number. It is my suspicion that seasonality will fail at the height of its popularity. So may be this year’s year-end rally will be the time? Who is to say; seasonality could even sustain itself until the next Presidential Election Rally.
The good news for those fundamentally bearish on the stock and housing markets is that a good entry point is going to occur again for precious metals long positions and homebuilder puts. (Not tomorrow in all likelihood.) Finally with regard to Amazon, it would not surprise me if it is found that a hedge fund “blows up” from being on the wrong side of the trade as we have seen a two day short squeeze of epic proportions. What you are seeing below has nothing to do with books! It has everything to do with panic buying.
Have a great evening. Martin Goldberg Copyright © 2007 All rights reserved. CONTACT
INFORMATION |
