Day Hagan Catastrophic Stop Update January 7, 2025
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The Catastrophic Stop model improved to 67.9% from 60.7% last week due to the MSCI ACWI Breadth Factor shifting to positive. The Internal Composite is bullish, and the External Composite is neutral.
Figure 1: Catastrophic Stop Model vs. S&P 500 Total Return.
As we enter 2025, we are continuing to monitor the bullish and bearish factors listed below. Net/net, the weight of the evidence currently rates the uptrend as intact.
Bullish (positive):
Fed is past peak hawkishness – it’s only been 3 ½ months since the first rate cut!
Most global central banks are also lowering rates
Employment is strong in the U.S.
Economic growth is positive in the U.S.
Corporate earnings growth (profitability) is solid
Inflation is trending lower
The U.S. and global service economy is expanding
Credit spreads remain below long-term averages (indicates lower risk of a major financial dislocation)
Potential for a more business-friendly tax and regulatory environment
AI theme remains attractive
Economic liquidity is positive, including consumer and business lending outlets
Bearish (negative):
Valuations
Interest rates have risen since the first rate cut
Lower-income consumers under pressure
Election risk – any unintended consequences of the new administration’s efforts to streamline government
U.S. Fiscal policy is a wildcard (can make the argument that changes could be inflationary or disinflationary). Markets tend to price uncertainty negatively.
Rates higher for longer (real yields increasing as inflation retreats)
The strong U.S. dollar is a headwind for U.S. export industries (we expect the dollar to weaken)
Economic weakness in Europe (France and Germany GDP)
Sovereign debt levels
Japanese yen-based carry trade under pressure
Manufacturing still weak in the U.S. and across the globe
China’s growth prospects are being dialed down
During our January sector allocation rebalance, we modestly increased exposure to Energy, Industrials, Information Technology, Communication Services, and Real Estate. We reduced exposure to Consumer Discretionary (though we are still overweight), Materials, Financials, and Consumer Staples. Our January 2025 sector allocations are as follows:
Sector Outlook
Sector
Consumer Discretionary
Consumer Staples
Connumication Services
Energery
Financials
Health Care
Industrials
Information Technology
Materials
Real Estate
Utilities
Outlook (relative to benchmark weighting)
Overweight
Neutral
Neutral
Neutral
Neutral
Neutral
Neutral
Neutral
Underweight
Neutral
Neutral
We review our sector holdings and model readings in our Smart Sector publications each month, along with related charts of interest. Below are our views for January (or you can go to DayHagan.com/research for the actual document).
For each sector, we highlight 1) current valuation conditions (Forward Price/Earnings ratio), 2) expected earnings growth expectations (expected percentage gain for 2025), and 3) levels of overbought or oversold (based on trailing 1-year returns expressed as the standard deviation of the returns vs. history. SD above +1.0 = overbought, below -1.0 = oversold, between +1 and -1 = neutral), along with our sector model readings and outlooks.
Consumer Discretionary: Forward P/E 25.2x, Price/Cash Flow 17.8x, 2025 earnings growth estimate +19.3%, overbought by +0.21 SD.
Consumer confidence fell sharply in December, with the Conference Board’s index dipping to 104.7 from 112.8 in November, contradicting analysts’ expectations for an increase. This drop indicates growing consumer caution regarding economic outlooks, which could impact discretionary spending. Despite this decline in confidence, holiday spending saw a year-over-year rise of 3.8%, exceeding forecasts. Notably, online shopping surged by 6.7%, highlighting a continued shift toward e-commerce. Spending trends, however, differed by income level; higher-income households contributed to gains, while lower-income consumers faced financial constraints. In the retail sector, home improvement stores like Home Depot and Lowe’s benefited from cooler weather in December, which spurred demand for winter-related products after warmer conditions earlier in the season. Conversely, Foot Locker reported modest earnings but fell short of sales expectations due to reduced consumer spending and fierce competition, leading to a lowered guidance for 2024. Nike faced its own challenges, with high inventory and rising competition resulting in a 28% decline in stock value over the year; the upcoming earnings report may shed light on the company’s recovery efforts under new leadership. The Consumer Discretionary sector displayed volatility after the Federal Reserve’s announcement of fewer rate cuts than anticipated. This uncertainty triggered a 4.6% drop in the S&P 500 Consumer Discretionary Sector Index, raising concerns about overvaluation and the durability of current earnings. The majority of Internal and External indicators remain positive, with measures of trend, overbought/oversold, relative valuations, and positive earnings surprises bullish. Higher interest rates are still a headwind, but any reversal should benefit the sector. We remain overweight.
Figure 2: Higher interest rates are a headwind for Consumer Discretionary stocks. A reversal would be positive for the sector.
Consumer Staples: Forward P/E 21.7x, Price/Cash Flow 16.7x, 2025 earnings growth estimate +7.8%, oversold by -0.61 SD.
During the holiday season, consumer spending displayed significant variation, with affluent households driving growth while lower-income consumers struggled. This disparity affected sales, particularly for brands targeting budget-conscious shoppers. Companies within the sector leveraged their pricing power to either maintain or increase prices, a tactic employed to counterbalance rising input costs. While this approach supported profit margins, it raised alarms about its potential repercussions on demand from price-sensitive consumers. In company-specific news, General Mills reported a drop in refrigerated dough sales due to the unusual timing of Thanksgiving, although segments like cereal and pet products fared better. Nevertheless, the company adjusted its profit forecast for 2025, expecting a decline in adjusted earnings per share of 1-3%. Conversely, Walgreens Boots Alliance saw a 5.3% surge in shares amid buyout talks with a private equity firm, reflecting positive investor sentiment. Dollar Tree’s stock rose by 3.8% after announcing its CEO would remain to lead a turnaround plan. Analysts expressed concerns about potential overvaluation and the sustainability of current market conditions, particularly if earnings fail to meet expectations. The composite model remains weak, with technical and operating measures negative. Credit conditions, sector-related credit spreads, pricing power, and the positive economic backdrop (staples are defensive holdings and typically do better when the markets are under duress) are headwinds.
Figure 3: Breadth for the Consumer Staples sector remains negative. If the 50-day relative breadth rises above the lower bracket, it would signal that investors are once again favoring defensive characteristics.
Communication Services: Forward P/E 20.0x, Price/Cash Flow 13.9x, 2025 earnings growth estimate +13.8%, overbought by +1.26 SD.
The performance of the advertising sector tends to increase during periods of economic growth and decrease during downturns. As of December, advertising revenue exhibited stability, highlighting consistent consumer expenditures and a robust sense of business confidence. This steady performance can be partly attributed to household spending on communication services, including subscriptions to streaming platforms and internet connectivity. Such expenditures have become significant drivers of growth within the sector. Moreover, these spending patterns are largely shaped by the prevailing economic climate—when disposable income rises, consumption of communication-related services typically follows suit. The U.S. Bureau of Economic Analysis shows an upward trend in disposable personal income (DPI). DPI rose 0.3% in November following a 0.7% increase in October, marking a 5.3% year-over-year growth, outpacing inflation. Although this suggests a boost in consumer spending during the holiday season, lower-income households are struggling, with reports indicating they are delaying purchases and seeking more affordable options. These disparities highlight that increases in disposable income are not felt equally across all income levels. The composite model is mixed, with measures of trend, overbought/oversold, momentum, and earnings revisions positive. Valuations, sales growth trends, and higher relative volatility are negative. We remain neutral.
Figure 4: The Communications Services sector has reversed from oversold levels, showing an improving technical backdrop.
Energy: Forward P/E 12.8x, Price/Cash Flow 7.3x, 2025 earnings growth estimate +5.9%, oversold by -1.20 SD.
In early December, crude oil prices demonstrated notable volatility, with West Texas Intermediate (WTI) futures climbing to around $73.50 per barrel, largely driven by geopolitical tensions and concerns over supply. Meanwhile, natural gas prices surged by 20%, reaching $3.66 per million BTUs, as forecasts predicted colder weather and heightened heating demand. The U.S. solidified its position in the global energy market as liquefied natural gas (LNG) exports soared to nearly 8.5 million metric tons in December, a 4.5% increase compared to 2023, propelled by the launch of new export facilities. However, the Energy Information Administration (EIA) reported a decline in U.S. crude oil inventories by 1.2 million barrels. Despite this, both gasoline and distillate stocks increased significantly due to reduced demand, raising concerns about potential oversupply and its effects on energy prices. Executives in the energy sector are optimistic about forthcoming policy changes under the new administration, particularly regarding a swifter permitting process for drilling on federal lands, which could enhance production prospects. Additionally, colder weather forecasts for January across the U.S. and Europe are anticipated to further elevate demand for heating fuels, positively influencing natural gas prices and benefitting related companies. The sector’s technical (price-related) indicators are generally negative. Sentiment is overly pessimistic, but we will remain neutral until the majority of technicals improve.
Figure 5: The Energy sector’s sentiment measure continues to illustrate overly pessimistic levels. A reversal higher, confirmed by our technical indicators, would be bullish.
Financials: Forward P/E 15.3x, Price/Cash Flow 15.1x, 2025 earnings growth estimate +9.5%, overbought by +0.54 SD.
The interest rate landscape is shaped significantly by the Federal Reserve’s monetary policies, which held the policy rate at 4.25% to 4.50% as of December. Projections suggest a reduction to around 3.75% by the end of 2025, potentially impacting net interest margins for banks and financial institutions. Analysts also foresee a rebound in U.S. GDP growth, estimating a rise to approximately 1.4% in 2025, propelled by government fiscal stimulus. This outlook typically favors the Financial sector by enhancing lending and investment activity. Furthermore, the KBW Nasdaq Bank Index demonstrated a robust 10.5% monthly rise and a 37.2% increase in 2024, attributed to undervaluation and favorable regulatory expectations. Earnings growth is another positive indicator for the sector, with estimates of a 39.8% year-over-year increase in Q4 2024, primarily due to easier comparisons with weaker Q4 2023 earnings. However, the overall market performance remains tenuous, as concerns about potential overvaluation linger, particularly in the face of disappointing earnings or shifting economic conditions. Our model shows a positive interest rate environment, steady GDP growth, and low unemployment rates bolstered consumer confidence, promoting increased borrowing and financial activity. Overall, U.S. financial stocks exhibited strength, fueled by better-than-expected earnings and favorable economic conditions. The composite model declined due to higher volatility, some deterioration in credit quality, and concerns about global economic growth. We reduced exposure slightly and are now neutral.
Figure 6: Credit spreads (OAS) for the Financials sector have ticked higher, indicating investors’ trepidation.
Health Care: Forward P/E 21.2x, Price/Cash Flow 27.2x, 2025 earnings growth estimate +28.6%, oversold by -2.16 SD (the most oversold sector).
In 2024, the healthcare sector experienced robust growth, adding approximately 654,000 jobs, representing nearly a quarter of all new employment across the economy. This surge marked the fastest growth in the sector since 1991 and outpaced overall employment growth rates. Concomitantly, national health spending rose by 5.9%, reaching a seasonally adjusted annual rate of $4.84 trillion—outstripping the 5.0% growth in GDP and indicating an increasing proportion of economic resources allocated to health care. On the company front, UnitedHealth Group reported third-quarter revenues of $74.9 billion, an increase of $5 billion from the previous year, supported by a growth in domestic service users. CVS Health Corporation also announced third-quarter revenues of $95.4 billion, a 6.3% rise, although it faced a $1.1 billion charge in its Health Care Benefits segment, which affected earnings per share. Meanwhile, HCA Healthcare saw its revenues surge to $17.3 billion, reflecting a year-on-year increase and a net income of $1.6 billion. Even with the increases in revenues, the Health Care Select Sector SPDR ETF (XLV) underperformed in 2024, primarily due to high drug development costs and ongoing legislative pressures. Despite these challenges, analysts remain optimistic about investment opportunities in firms like UnitedHealth, Eli Lilly, and Boston Scientific. The composite model is still under pressure with measures of trend, momentum, breadth, volatility, and earnings revision breadth negative, while at the same time, sector-specific credit spreads are widening. We are neutral.
Figure 7: A decisive reversal confirmed by our array of technical indicators would allow us to increase exposure further.
Industrials: Forward P/E 21.4x, Price/Cash Flow 17.9x, 2025 earnings growth estimate +14.8%, oversold by -1.46 SD.
The U.S. manufacturing sector is showing signs of recovery, with the Purchasing Managers’ Index (PMI) rising to 49.3 in December, its highest level since March. Nonetheless, it remains under the expansion threshold of 50, and marked the ninth consecutive month of contraction. In December, the Federal Reserve lowered interest rates to a target range of 4.25%–4.50% in an effort to stimulate economic activity; this decrease in borrowing costs aims to benefit industrial companies by reducing expenses and encouraging capital investment. The election of President Donald Trump brought hopes of tax cuts and deregulation that could favor industrial sectors. However, there are concerns about possible tariffs on imports from Mexico, Canada, and China, which could increase the costs of imported raw materials, potentially affecting manufacturing expenses. Meanwhile, the industrial sector is entering a stabilization phase after a previous period of rapid growth, as the supply surge began to taper off in 2024. This is attributed to declining construction starts and rising borrowing costs. Lastly, global economic uncertainties and trade tensions are impacting the demand for U.S. industrial goods, particularly with worries about slowdowns in major economies like China, affecting export orders and revenue forecasts. The model held steady with the January update. Measures of momentum declined, partially offset by increasing commodity pricing reflecting improving demand. We remain neutral.
Figure 8: Rising commodity prices often signal improving demand for cyclical companies.
Information Technology: Forward P/E 29.2x, Price/Cash Flow 30.1x, 2025 earnings growth estimate +22.2%, overbought by +0.54 SD.
Global IT spending is anticipated to rise by 8% from 2023 to 2024, reaching around $5 trillion. This growth is largely driven by companies investing in emerging technologies, notably generative AI, to advance their digital transformation efforts. As of December 30, 2024, the U.S. Information Technology sector boasted a market capitalization of $18.7 trillion and a price-to-earnings (P/E) ratio of 51x, reflecting strong investor confidence in its long-term growth. Companies that successfully integrated AI saw significant stock value increases; for instance, AppLovin’s advertising revenue surged by 66%, resulting in a staggering 740% rise in its stock price. Palantir Technologies experienced a 360% increase in stock value by leveraging AI to enhance customer outcomes. The “BATMMAAN” stocks—Broadcom, Nvidia, Tesla, Amazon, Microsoft, Meta, Apple, and Alphabet—played a critical role in market gains, collectively adding over $1.9 trillion in market capitalization since the November 2024 election. The IT sector exhibited strong performance, with Nvidia’s stock soaring by 180% and Broadcom’s by 110%, fueled by soaring demand for AI-related technology. Analysts noted that the top five tech companies account for an impressive 63% of the market capitalization among the leading 20 firms, highlighting the significant influence held by these major players. The sector’s technical indicators improved slightly this month, as reversals from oversold conditions showed improving demand. From an external indicator perspective, valuations improved slightly while inflation expectations moved higher, which is negative for the sector. We increased exposure slightly and remained neutral.
Figure 9: Net new highs on a 50-day basis are declining, illustrating fewer stocks participating in the upside.
Materials: Forward P/E 19.8x, Price/Cash Flow 13.8x, 2025 earnings growth estimate +19.4%, oversold by -2.07 SD.
The global economy is projected to grow by 3.1% in 2024, slightly down from 2023, with expectations of a 3.2% increase in 2025. This economic growth is poised to boost demand for materials across construction and manufacturing industries. In December, China’s manufacturing sector is expected to maintain stability, with the official Purchasing Managers’ Index (PMI) forecasted at 50.3, indicating its significant impact on global raw material demand. In company developments, Applied Materials Inc. reported a record operating income of $7.87 billion for fiscal year 2024 and returned $5.01 billion to shareholders, showcasing strong financial health. Meanwhile, MP Materials Corp. achieved a remarkable 20% year-over-year revenue increase to $62.9 million and record production of Rare Earth Oxides, highlighting its growing presence in the market. On the sector front, the Materials sector was the only one of the S&P 500’s sectors to decline in 2024, down 0.16%, influenced by challenging global conditions and a slowdown in China, which affected industrial chemicals, metals, and construction materials. Despite this, companies like Dow and LyondellBasell Industries emerged as potential value opportunities for investors thanks to attractive dividend yields and favorable price-to-earnings ratios. The composite model declined again with the January update. The technical outlook is negative, and external indicators are not much better. Measures of EM equity momentum (negative), commodity futures prices (many are in downtrends), and valuations are also negative. With global manufacturing still struggling, we remain underweight.
Figure 10: The materials component continues to trend lower within the U.S. Industrial Production report.
Real Estate: Forward P/E 38.7x, Price/Cash Flow 19.6x, 2025 earnings growth estimate +13.6%, oversold by -1.51 SD.
In 2024, interest rates exhibited significant volatility, affecting financing conditions. By early December rates across the yield curve increased, stimulating competition for high-quality investments and resulting in narrower lending spreads. Housing inventory reached a 4.3-month supply by November, the highest level since 2019. Due to ongoing hybrid and remote work, the demand for office spaces remained low. The composite model remains neutral, with technical indicators still largely negative.
Figure 11: Relative price trends are negative for the Real Estate sector.
Utilities: Forward P/E 17.8x, Price/Cash Flow 10.0x, 2025 earnings growth estimate +8.7%, overbought by +0.08 SD.
The rapid advancement of artificial intelligence (AI) technology is set to significantly increase electricity demand over the next decade, creating both opportunities and challenges for utility providers. Based in New Orleans, Entergy Corporation reported an impressive 47% return for shareholders in 2024, fueled by the growing demand from data centers and AI applications. With Meta Platforms’ $10 billion investment in a Louisiana data center, Entergy expects earnings growth between 8% and 9% after 2025. Meanwhile, Duke Energy has proposed a plan to recover around $1.1 billion in costs from emergency responses to hurricanes Debby, Helene, and Milton. This has led to an anticipated monthly increase of about $21 for North and South Carolina residential customers, effective March 2025, with charges remaining until February 2026. Overall, utility stocks have rallied by 23% in 2024 after a challenging previous year, as companies like Entergy, NiSource, Idacorp, PPL, Pinnacle West, and Xcel Energy capitalize on the rising demand for electricity driven by AI data centers. While analysts foresee strong growth potential in the utility sector, not all companies can equally benefit due to regulatory and environmental constraints in certain regions. Indicators calling the external operating environment are generally positive, with better PMIs, attractive dividend yields, and supportive valuations. The technical outlook is less encouraging, with breath and overbought indicators negative. The net result is a neutral allocation until the technicals confirm that investor demand is improving.
Figure 12: The Utilities sector price momentum shows oversold conditions in place. A rise above the lower bracket would be positive.
Bottom Line: Our longer-term models remain supportive, with U.S. equities near all-time highs. Several major models continue to evidence initial signs of weakness but not enough to cause us to turn negative on equities. At this juncture, our models' collective message is that the uptrend is intact.
Our goal is to stay on the right side of the prevailing trend, introducing risk management when conditions deteriorate. As has been the case for all of 2024, the broader-based composite models calling U.S. economic growth, international economic growth, inflation trends, liquidity, and equity demand remain constructive. The Catastrophic Stop model is positive, and we are aligned with the message. If our models shift to bearish levels, we will raise cash.
This strategy utilizes measures of price, valuation, economic trends, monetary liquidity, and market sentiment to make objective, unemotional, rational decisions about how much capital to place at risk and where to place that capital.
If you would like to discuss any of the above or our approach to investing in more detail, please don’t hesitate to schedule a call or webinar. Please call Tyler Hagan at 941-330-1702 to arrange a convenient time.
I hope you have a wonderful week,
Sincerely,
Donald L. Hagan, CFA
Chief Investment Strategist, Partner, Co-Founder
Charts with models and return information use indices for performance testing to extend the model histories, and they should be considered hypothetical. Charts courtesy Ned Davis Research (NDR). © Copyright 2024 NDR, Inc. Further distribution is prohibited without prior permission. All Rights Reserved. See NDR Disclaimer at www.ndr.com/copyright.html. For data vendor disclaimers, refer to www.ndr.com/vendorinfo.
Disclosures
S&P 500 Index – An unmanaged composite of 500 large capitalization companies. This index is widely used by professional investors as a performance benchmark for large-cap stocks.
S&P 500 Total Return Index – An unmanaged composite of 500 large capitalization companies. This index is widely used by professional investors as a performance benchmark for large-cap stocks. This index assumes reinvestment of dividends.
Sentiment – Market sentiment is the current attitude of investors overall regarding a company, a sector, or the financial market as a whole.
S&P 500 Consumer Discretionary – Comprises those companies included in the S&P 500 that are classified as members of the GICS consumer discretionary sector.
Treasury Yield – Is the effective annual interest rate that the U.S. government pays on one of its debt obligations, expressed as a percentage.
S&P 500 Consumer Staples – Comprises those companies included in the S&P 500 that are classified as members of the GICS® Consumer staples sector.
Price-to-earnings (P/E) ratio – A valuation metric that compares a company’s stock price to its earnings per share (EPS) to determine if a stock is expensive or cheap. It’s calculated by dividing the current stock price by the EPS, which is calculated by dividing the last 12 months of earnings by the weighted average shares outstanding.
S&P 500 Information Technology – Comprised of those companies included in the S&P 500 that are classified as members of the GICS information technology sector.
S&P 500 Utilities - Comprised of those companies included in the S&P 500 that are classified as members of the GICS utilities sector.
Disclosure: The data and analysis contained herein are provided "as is" and without warranty of any kind, either express or implied. Day Hagan Asset Management, any of its affiliates or employees, or any third-party data provider shall not have any liability for any loss sustained by anyone who has relied on the information contained in any Day Hagan Asset Management literature or marketing materials. All opinions expressed herein are subject to change without notice, and you should always obtain current information and perform due diligence before investing. Day Hagan Asset Management accounts that Day Hagan Asset Management or its affiliated companies manage, or their respective shareholders, directors, officers, and/or employees, may have long or short positions in the securities discussed herein and may purchase or sell such securities without notice. Day Hagan Asset Management uses and has historically used various methods to evaluate investments which, at times, produce contradictory recommendations with respect to the same securities. The performance of Day Hagan Asset Management’s past recommendations and model results is not a guarantee of future results. The securities mentioned in this document may not be eligible for sale in some states or countries nor be suitable for all types of investors; their value and income they produce may fluctuate and/or be adversely affected by exchange rates, interest rates, or other factors.
There is no guarantee that any investment strategy will achieve its objectives, generate dividends, or avoid losses.
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