Small cap stocks and the US tech sector have now broken out to new record highs. Art Hill from Stockcharts.com discussed the recent breakout, why he thinks the uptrend in the US dollar is likely to continue, and more with Financial Sense Newshour on Saturday. Here's what he had to say...
The Nasdaq and Russell 2000 are all at record levels. It doesn't take much to move small caps, Hill stated, because small caps are less than 10 percent of the total US investible stock market, where the S&P 500 accounts for around 80 percent. Technology has also stood out along with consumer discretionary.
Part of the driver behind this is the move up in the dollar, which supports small caps generally, along with the new tax regime as well.
“There’s no question about it,” Hill said. “The strong dollar does put a damper on large-cap profit, so it would put a favor on small caps which derive more of their revenue from the US side.”
Advance-Decline Lines Also Breaking Out
The advance-decline lines — which measure internal strength or weakness, known as market breadth — represent the rank-and-file of the index.
The advance-decline line doesn't care about market cap, however, Hill stated, with an advance marked as plus one, and a decline marked as minus one.
“When we look at the S&P 500 specific advance-decline line, it hit a new high already (last) week and that tells you that there's good internal strength in the index,” Hill said. “I would expect it also to move to a new high in the coming weeks and months. And we're also seeing new highs in the mid-cap AD line, the small-cap AD line, and the Nasdaq 100 AD line.”
Dollar to Continue Uptrend
With the dollar’s run into the middle of April, we came up against resistance around the 95 area. Now, though, Hill expects we’ll see it resume course.
Ultimately, these trends always depend on the time frame we’re looking at. If we look from the October-November high where we surged from 88 to around 95, we've hit that high now, Hill noted which was the last significant peak to watch for to get a major trend change.
“I think the long-term trend for the dollar has changed because of the significance of the move,” he said. “It's been a really sharp move that kind of is like a rocket lifting off. It's got enough for us to suggest that this move is sustainable and it will continue. Now we're a little bit overextended after a 5 percent run from April to early June, so we could get a pullback in the dollar. But I would expect it to resume that uptrend.”
How Things May Shake Out
The U.S. is looking quite good against Europe and emerging markets here, Hill noted, especially if we look at small caps and technology, including large-cap technology.
Everything’s clicking in tech right now, both small and large cap. That's probably a reflection of the strong dollar as well, Hill noted, and he expects interest rates to continue to move higher. After the May Italian election fiasco, we saw money move back into Treasuries, pushing interest rates lower. Now the 10-year has had a nice bounce back, and the larger trend is in play, Hill stated.
“It's going to take over if it hasn't already, and we're going to see a move higher towards that 3.5 percent level in the coming months,” Hill said. “I think it’s a question of how much of a rise in the 10-year Treasury yield can the stock market take. I think once we start getting above 3.5 percent, that might start to create a headwind. … At what price do oil and rising gasoline prices start to become a factor as well?”
Hill doesn’t see these factors coming into play just yet. We’ll likely get a fair warning from the price action in the stock market first, with a sideways movement for a few months leading into some sort of a topping pattern.
“I think clearly the US is the place to be right now,” Hill said. “It’s a stock picker’s market, and small caps add a little bit more volatility or risk to the equation because they tend to have higher betas. They're going to fluctuate more than the large caps. So if you're moving into small caps, that's going to create added risk.”