Sector Rotation Says Stay Defensive

Price tends to move first.  Think ‘09 when stocks were bouncing and there was no good news out there.  Or how prices peaked out in mid-‘07 when things were great and the real bad economic data from the Great Recession was over a year away.  The reality is price leads the economy in most cases at major inflection points.  

Which brings us to what we’ve seen so far in ‘14.  Small caps have been the big loser, while utilities, healthcare, and consumer staples have been big winners.  This isn’t what I’d consider a ‘healthy’ market.  Last year, I mentioned time and time again that small cap leadership was a big positive for the overall market.  Well, this year is nearly the mirror opposite.  

Here’s a great chart that is used by Sam Stovall and John Murphy based on sector rotation.  As you can see, when things like staples, healthcare, and utilities start leading - that is a sign the economy could be nearing the end of its growth cycle and a coming slowdown is likely.  Sure, things aren’t perfect, as financials by no means are leading - still, it is worth paying attention to the leaders so far in ‘14.  

Now, it is important to note that this doesn’t mean a crash is coming.  It very well could mean we have more choppy times on the horizon.  Remember, there have been years when things are flat.  Just back in 2011 the SPX was flat, while earnings grew 14%.  This ‘rest’ helped spark the move higher the past two years.

The bottom line is things don’t look healthy and being super aggressive here isn’t wise.  Bonds and commodities still look nice to me and I’d expect them to continue to outperform stocks here.  Playing good defensive over the coming summer months could be the best play here.  

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