The market is in a state of rotation. The cap-weighted S&P 500 slipped about 1% in July and fell below its 50-day moving average, and the NASDAQ 100 and growth stocks are where the weakness sits. Underneath the surface the picture is different: the equal-weight S&P, the NYSE composite, small caps, and the TSX all made new highs.
Stocks are behaving differently from one another, which means the market is sorting winners from losers rather than trading as one correlated block. On a long-term relative strength basis the leadership runs international equities first, domestic equities second, then commodities, with the least attractive assets furthest down the list.
The macro backdrop is a multi-year regime of rising interest rates, and that shapes the portfolio. The 30-year US Treasury has held above 5% for the longest stretch since 2007, sovereign yields are rising worldwide, and central banks are shifting reserves from Treasuries into gold. In that environment we favour cash flow: dividend growers, financials, energy, and materials, all of which behave as inflation hedges.
Financials remain our largest weight at close to 28%, energy sits near 13%, and technology is a much lower weight after we were stopped out of most of the group. We hold roughly 10% cash heading into August, run stop losses on every position, and keep the portfolios pointed at where money is going.
Key Takeaways:
- Breadth Is Rotating, Not Deteriorating. The cap-weighted S&P 500 slipped about 1 percent in July and fell below its 50-day moving average, but the equal-weight S&P, the NYSE composite, small caps, and the TSX all made new highs. The weakness is concentrated in the NASDAQ 100 and growth stocks. In Europe, the share of stocks in uptrends moved from 42 percent to just over 50 percent.
- International Equities Lead the Ranking. On long-term relative strength the order is international equities first, domestic equities second, commodities third. International and financial stocks are under-owned around the world. Singapore rose 8.5 percent in July and Latin America 3.5 percent, and a widening list of international markets has made new highs.
- Rising Rates Are the Regime. The 30-year US Treasury has held above 5 percent for the longest period since 2007, sovereign yields are rising worldwide, and bonds are in a bear market. Central banks are moving reserves from Treasuries into gold. Dividend growth stocks have outperformed bonds steadily since 2020.
- Financials Are the Standout Sector. The US financials ETF rose 7.2 percent in July and is our largest weight at close to 28 percent. Banks in the US, Canada, Europe, and Asia are all earning wider margins as long-term rates rise, and financials beat analyst earnings estimates this quarter. Eurozone banks rose 5 percent in the month.
- Technology Is the Risk. The semiconductor index is down about 25 percent from its high, and the average member has given back roughly 50 percent of its March-to-June advance. Big tech has moved from generating cash to spending it, with Alphabet posting its first negative cash-flow quarter since 2004 and rising credit-default-swap costs on the hyperscalers. We hold one position, NVIDIA.
- Process Drives the Portfolio. Being in the right part of the market accounts for 70 to 80 percent of return. We run stop losses on every position, raise cash as breadth contracts, and carry about 10 percent cash into August.