The Market Is Seeing Record Highs on Record Narrowness
This action won’t last forever, but how will the disparity eventually be resolved?
You've reached your free article limit
You've read 0 of 1 free Pro articles.
The big news in the popular business media this week is that the S&P 500 and Nasdaq 100 QQQ have hit new all-time highs every day. For most market participants, that is very good news and creates optimism that the strong uptrend will continue.
However, there is one major problem: the new highs are occurring due to record narrowness. Only a very small group of large-cap stocks are driving the indexes higher while most of the market is struggling.
If you are holding indexes or just a few names like Apple AAPL or Nvidia NVDA, then you probably don’t care too much, but it is unsustainable action, and at some point, the gap between the small group of winners and the rest of the market will close. The trillion-dollar question is how will that gap eventually be closed.
One of the easiest ways to see what is happening is to compare the S&P 500 SPY with the S&P 500 Equal Weighted Index (SPEW) The S&P 500 is capitalization weighted, which means the stocks with the biggest market caps, such as Microsoft MSFT and Amazon AMZN, have more weight than 100 smaller names in the index because of their size. If all stocks are given equal weight, then the index looks quite different.
The S&P 500 hit a new all-time high on Thursday, but the last time the SPEW hit a new all-time high was on March 28, 2024. Since then, it has declined 3.2%. During the same period, the S&P 500 increased by 3.4%. If we look at smaller stocks, then the disparity is even greater.
There is a long list of stats that illustrate this distortion. The fact that breadth has been consistently negative while the indexes hit new highs is probably the one that is having the most impact on investors who own a diversified portfolio.
The issue we have to grapple with is how it resolves itself. Back in 1999, there was similar narrowness, with stocks such as Cisco CSCO and Yahoo driving the indexes while much of the rest of the market struggled. There was better speculative action in smaller internet-related stocks, but eventually, the bubble burst in 2000, and the leading big-cap names collapsed.
The entire market declined in 2000, with both the big-cap leaders and junk speculative names declining, but over time, the gap between the two groups started to close, and eventually, smaller stocks exhibited relative strength.
I don’t mean to suggest that the same thing will happen again, but there will come a point when this action reverses and the gap closes. We just have to stay vigilant and react as conditions change.
On Friday morning, the market is indicated lower due mainly to debt issues in France and Europe. However, the market has consistently shrugged off early weakness and closed strong. We have to wait and see if that pattern starts to change.
At the time of publication, Rev Shark had no positions in any securities mentioned.
