Day Hagan Catastrophic Stop Update July 2, 2024
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Catastrophic Stop Update
The Catastrophic Stop model increased to 77.9% from 70.7% last week. The Internal and External Composites are positive.
Figure 1: Catastrophic Stop Model vs. S&P 500 Total Return Index
The increase was due to breadth statistics continuing to oscillate around neutral levels, having ticked slightly higher last week after ticking lower the week before. Historically, markets have leaned slightly positive even with a “mixed” breadth environment, as described in the stats boxes at the bottom of the chart below.
Figure 2: Breadth is slightly positive.
Other technical measures within the Catastrophic Stop models remain generally bullish, with the exception of the Breadth Thrust and Oversold Mean Reversion factors, which are neutral. Overall, the model’s external (operating environment-related) indicators remain positive, though other indicators we track that evaluate the economic landscape show signs of fatigue. Nonetheless, measures of financial stress, such as Option Adjusted Spreads (chart below), indicate the probability of an extended downturn is relatively low.
Figure 3: Even with the ramp in yields yesterday, credit spreads remain relatively narrow.
We note that a time correction has been in place for months for most indices and sectors except for the major capitalization-weighted indexes (especially large-cap growth). We are starting to see green shoots in previously underperforming sectors and are looking to our models for confirmation that the trends are sustainable. Central Bank policies, especially away from the U.S., are moving toward less-restrictive stances. Lastly, July has a positive bias, though there can be some weakness toward the end of the month (see Art Huprich’s “Tech Talk” for more details).
Figure 4: Most indexes remain range-bound, having gone nowhere for several years.
Interestingly, Bespoke observed, “While the market was up 3-4% in Q2 at the cap-weighted index level, the average stock in the Russell 1000 was actually down -4%. Across all but one decile in the entire matrix, average Q2 returns were negative.”
Figure 5: Slim pickings.
As we head into earnings season, expectations are high. Q2 2024 median expected earnings growth for each sector is highlighted in green, with the usual suspects at the top of the list: Information Technology, Communication Services, and Consumer Discretionary. Energy, Health Care, and Financials join those sectors expected to produce double-digit earnings. Interestingly, we are overweight Information Technology and Health Care following our July rebalance. Communication Services, Consumer Discretionary, Financials, and Energy are neutral relative to the benchmark weightings. We are underweight Staples, Materials, Real Estate, and reduced Utilities from overweight to slightly underweight. Our Monthly Smart Sector with Catastrophic Update will be published later this week, detailing our current views on each sector.
Figure 6: The hurdle for earnings is high.
Information Technology: We remain overweight the sector, with internal and external indicators leaning marginally more positively. Net new highs are expanding and other breadth indicators are nearing buy signal inflection points. Perhaps it’s time for the troops to help the generals. As mentioned last month, the sector is overbought, but overbought levels can persist. At this point, a decisive reversal has not occurred. Upside positioning is extended, and with investors still very optimistic, earnings must hit all cylinders. NVDA is now trading at 25.3x forward sales (not earnings) vs. 13.6x for Microsoft and 8.4x for Apple.
Figure 7: Go with the flow until it reaches an extreme and reverses. This particular OBOS indicator will flip to a sell signal when the 10-day rate of change declines below the top bracket.
Figure 8: Whether the rate cut cycle ends up being a “fast” or “slow” cycle, the first few months after the first cut have been positive. (Internally, we’ve been discussing if this would be the catalyst for a blow-off top.)
Utilities: High interest rates have been a headwind, making fixed-income alternatives more attractive and increasing borrowing costs for utilities. However, regulated utilities can often pass increased costs to consumers, helping sustain their earnings outlook. As an AI beneficiary, Utilities moved higher due to the expected increase in energy consumption. However, investors appear to have largely played out that theme. This is confirmed by measures of trend, momentum, OBOS, and breadth, all of which are negative.
We remain constructive, with positive but slowing macro data leading into a seasonally strong July and earnings season. Moreover, should the Fed cut rates with the S&P 500 near all-time highs, which it has done 20 times since 1980, the market has historically risen, averaging a 14% return over the following year. Additionally, corporate balance sheets show a positive financing surplus, suggesting continued share buybacks or debt reduction, supporting credit. Money market fund assets hit a record $6.12 trillion, potentially moving back into risk assets. Valuation is not seen as a significant market catalyst (yet); compared to the Tech Bubble, the S&P 500 is trading lower at a forward P/E of 20.9x versus 25.2x.
Bottom Line: Our goal is to stay on the right side of the prevailing trend, introducing risk management when conditions deteriorate. Currently, the uptrend remains intact. 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
For more information, please contact us at:
Day Hagan Asset Management
1000 S. Tamiami Trl
Sarasota, FL 34236
Toll Free: (800) 594-7930
Office Phone: (941) 330-1702
Website: https://dayhagan.com or https://dhfunds.com
Disclosures
MSCI ACWI Index – A market capitulation-weighted index designed to measure the combined equity market performance of developed and emerging markets globally.
Breadth Thrust – A technical indicator which determines market momentum, signaling the start of a potential new bull market.
Oversold Mean Reversion factors – Mean reversion trading strategies use technical indicators to identify when assets are oversold or overbought, which can signal a potential return to average prices.
Option Adjusted Spread (OAS) - The measurement of the spread of a fixed-income security rate and the risk-free rate of return (the theoretical rate of return of an investment with zero risk), which is then adjusted to take into account an embedded option.
Range-bound – When a security’s price fluctuates between a support and resistance level over time, without making a strong move in either direction.
Russell 1000 Index – A U.S. stock market index that measures the performance of the 1,000 largest companies in the Russell 3000 Index, which is made up of 3,000 of the largest U.S. stocks.
Russell 2000 Index – An index comprised of the 2,000 smallest companies on the Russell 3000 list and offers investors access to small-cap companies. It is a widely recognized indicator of small capitalization company performance.
Cap-weighted index level – Capitalization weighting is a method for constructing an index according to the relative total market value of the stocks it is covering. The components with higher market caps carry greater weight in the index. Conversely, those with smaller market caps have a lower weight in the index.
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 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.
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.
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.
For more information, please contact us at:
Day Hagan Asset Management
1000 S. Tamiami Trail, Sarasota, FL 34236
Toll-Free: (800) 594-7930
Office Phone: (941) 330-1702
Websites: https://dayhagan.com or https://dhfunds.com
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