At the end of last month I penned an article here about how exchange traded funds indexed to the consumer sector were broadcasting a melt-up in equities this fall.
A move higher was a high-probability scenario for the same reasons I called a summer sell-off in June. The Sept. 30 article ran when seemingly the whole world was stunningly bearish, and redemptions from stock funds hit record levels. [Consumer Staples, Discretionary ETFs Suggest Fall Melt-Up]
My reasoning for the call had nothing to do with gut feeling or random guessing. Rather, I was simply listening to the underlying message of the markets, which was suggesting the conditions existed for a violent counter-trend rally on the upside. With markets now on pace for one of the best months in a number of years, it’s worthwhile to revisit consumer staples and consumer discretionary ETFs.
Take a look below at the price ratio of 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. A declining price ratio means the opposite, which in this case wold mean discretionary stocks are outperforming consumer staples.
The September article stated the trend of the above ratio acts 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 that the ratio continues to trend lower. This is very bullish, and it means defensiveness is coming out of the market. The persistence of this ratio trend means that despite the huge move up in equities, the fall melt-up may still be in its early stages.
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.