Investing

Market Concentration

There continues to be quite a bit of consternation over the rise in stocks and how the majority of gains are concentrated in a few names within the indices. The disagreement between fundamentals and price action also continues to be a point of concern. While I can’t justify the current disconnect, the trend continues to point upward implying there’s more upside from here barring an unexpected shock to the market/investor psyche.

The chart below may be an oversimplification but investors appear to be doing what they always do, which is pick the sectors they believe have the best future growth prospects (technology, consumer discretionary, industrials and materials). Note the performance is irrespective of valuation levels. I’m not saying valuation levels aren’t important here but right or wrong they don’t appear to be deterring investment. We could have a philosophical discussion on why insensitive buying continues to occur (central bank liquidity, indexing, etc…) but that’s not the point of my post today.

There’s plenty of commentary about how narrow the participation in the stock market gains is within the overall universe of stocks. In other words, only a few stocks are driving the gains in the market. The claim is the narrow participation is indicative of a weak or questionable rally. That may be the case but in looking at the percent of stocks on the New York Stock Exchange (NYSE) and in the S&P 500 that are above their 200 day moving averages, it would be appear there’s a decent level of participation. Furthermore, the bullish percent index for the NYSE appears to indicate broad participation in the rally (note: levels above 70 on the bullish percent index are interpreted by some as sell signals).

Nearly 54% of stocks on the NYSE are trading above their 200-day moving average

Over 60% of stocks in the S&P 500 are trading above their 200-day moving average

Over 70% of stocks in the NYSE have buy signals according to Stockcharts.com

Another interesting indicator is the sentiment survey published by the American Association of Individual Investors (AAII). The survey measures the number of bullish (positive) investors versus the number of bearish (negative) investors. Currently, the percentage of bearish investors is greater than the percentage of bullish investors (negative reading on the chart). This survey can be a contrarian indicator, meaning a net bearish figure (negative reading) may actually be positive for stocks and vice versa.

US Investor Sentiment, % Bull-Bear Spread Chart

While we can debate why stocks should or shouldn’t be as high as they are, it isn’t going to change anything. The bottom line is the trend in stocks is higher. We recently made a new high in the S&P 500. If we continue to make new highs that’s likely a positive sign the market will continue to move higher. I’m not suggesting now is the time to start buying, but I’m also not saying it’s time to sell. Recognizing, understanding and adapting to the risks of investing is an integral part of the investment process. Having an investment plan that incorporates risk management is essential.

^SPX Chart