In June I started writing about the possibility of a summer crash and it was obviously a tough season for stocks.
Now, however, I see a fall melt-up in equity prices.
My reasoning for this has nothing to do with gut feeling, but rather has to do with listening to the message of the markets. The same approach that led me to write in June that a summer crash was likely is now indicating a move higher is a high probability scenario.
One way to determine if the conditions favor a risk-on move is to look at the price ratio of the Consumer Staples Select Sector SPDR Fund (NYSEArca: XLP) relative to Consumer Discretionary Select Sector SPDR Fund (NYSEArca: XLY).
As a reminder, a rising price ratio means the numerator/XLP is outperforming (up more/down less) the denominator/XLY.
Think of the trend of the above ratio as a sentiment indicator. When the ratio trends higher, it means investors favor lower-beta stocks, causing the consumer staples ETF to outperform higher beta consumer discretionary stocks. Basically, when investors are afraid of equity volatility, staples/need outperforms discretionary/want.
Notice how the ratio has been trending higher as early as February this year. It appears the ratio peaked in mid-August, and that a possible downtrend may occur in the very near-term if that peak does not get violated. In other words, need may begin to underperform want. Why would this be the case unless there was some anticipation for an improvement in equity prices and the economy?
The author, Pension Partners, LLC, and/or its clients may hold positions in securities mentioned in this article at time of writing. The commentary does not constitute individualized investment advice. The opinions offered herein are not personalized recommendations to buy, sell or hold securities.