Volatility Died As Large Cap Tech Dominated

Slight Decline On Tuesday

The stock market fell slightly on Tuesday, although, small caps rallied. It’s ironic that small caps rallied and outperformed on the same day the NFIB small business index fell. To be clear, small firms in the NFIB survey aren’t large enough to be in the Russell 2000. And the decline in the NFIB index wasn’t large. However, it is notable that the Russell 2000 outperformed because it has been underperforming in the past few months. 

Specifically, the S&P 500 was down 15 basis points, while the Russell 2000 was up 0.37%. As you can see from the chart below, the ratio of the S&P 500 equal weight to S&P 500 index has been falling steadily since the start of 2017. Smaller the company, the more it has recently underperformed. Let’s see if today’s action changes is the start of a new trend.

Big Tech Dominates The Market

One of the main reasons the S&P 500 and large caps in general have been outperforming is because of the rally in tech. That explains how the Nasdaq is the highest in relation to the S&P 500 since April 2000. Current ratio is 2.82 and the peak in the tech bubble was 3.62. The long term average is 1.68. To be clear, I don’t think we should expect it to go back to the levels in the 1970s and 1980s because tech has transformed the world. 

Internet firms should be the largest businesses in the world. In tune with this theme of large cap tech doing well, it’s notable that the market cap of the top 5 firms in the S&P 500 was 18.1% at the end of 2019. Peak at the end of 1999 was slightly above 16.5%. Top 5 firms were Apple, Microsoft, Google, Facebook, and Berkshire Hathaway which owns shares in Apple.

On Tuesday, the Nasdaq fell 0.24%. Apple stock fell 1.24% which doesn’t seem like a lot, but it was its worst day since December 6th. It has been on a rampage in the past few weeks. It’s clearly tough to perfectly time the top, but it’s rational to expect the pullback to be large when it does occur.

Even though the tech sector pulled back on Tuesday, Tesla continued its amazing rally. It was up 2.49% which means it’s now up 28.59% year to date. If you asked most bulls last month how much Tesla stock could rally in the first few weeks of 2020, most wouldn’t have said this much. There is one analyst predicting the stock will reach $6,000. Personally, I ignore such extreme bullishness or bearishness. 

Don’t confuse a high price target from one person with euphoria because previous high price targets would have caused you to mistakenly short this name. I wouldn’t short it at all, but I wouldn’t own any if I started the year with some.

Review Of Tuesday’s Action

VIX was up 7 basis points to 12.39 as it is still low. CNN fear and greed index stayed at 90 which is extreme greed. One month ago it was at extreme greed as well. It’s rare to see such a stretch where it is this high. We’ve seen this index fall from extreme greed to neutral after a few small selloffs. This time, we haven’t had many declines. There hasn’t been much movement at all.

As you can see from the chart below, it has been over 3 months since the S&P 500 closed up or down at least 1%. 2 previous times it went that long without at least a 1% change were in October 2018 and January 2018. There have been quite a few parallels between the current euphoria and the euphoria seen in January 2018. 

That’s a strong signal a correction is coming soon. This is the 7th instance in this bull market where the S&P 500 has made at least two 52-week highs in each month for 4 straight. If that occurs again in February, it will be the 4th such month of this bull market.

Biggest winners on Tuesday were healthcare and utilities which increased 0.28% and 0.55%. Let’s review a few recent Democratic primary polls which were done before Tuesday’s debate. Sanders was winning by 3 points over Biden in California. Biden was winning by 10 points over Sanders in North Carolina. 

Biden was winning by 1 point over Sanders in Nevada. Nevada is important because it’s the 3rd state to vote. The biggest losers were tech and real estate which fell 0.6% and 0.49%.

Earnings Are Coming

This weak is the unofficial start of earnings season as 3 big banks reported results on Tuesday. As you can see from the table below, even though the first 25 firms to report Q4 earnings had an average EPS surprise of 4.75%, growth is still negative as it was 0.64%. The financials have reported 11.49% EPS growth and 3.75% sales growth.

JP Morgan’s Q4 Earnings Results

JP Morgan, which is widely known as the best of breed big bank, reported EPS of $2.57 which beat estimates for $2.35. Profits were up 21% from last year. Revenues were $29.2 billion which beat estimates for $27.94 billion. That was 9% growth. Its net interest margin was 2.38% which beat estimates by 1 basis point. 

Fixed income trading revenue was up 86% to $3.4 billion which beat estimates for $2.61 billion. Equities trading revenue was $1.5 billion which beat estimates for $1.37 billion.

As a result of this amazing quarter, the stock rose 1.17%. When stocks that are expected to have great reports do so, they don’t increase much. If Wells Fargo would have reported such numbers, its stock would have exploded higher. 

In the past 12 months, JP Morgan stock is up 36.51% which is much better than the financial sector’s gain of 23.91%. The firm’s retail banking division had $4.2 billion in profits which was 5% growth. Revenues were up 3% to $14 billion based on strong credit card and auto loan growth. That’s a great sign for the overall economy. 

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