Day Hagan Smart Sector® with Catastrophic Stop Strategy Update March 5, 2025
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Day Hagan Smart Sector® with Catastrophic Stop Strategy Update March 2025 (pdf)
Executive Summary
February witnessed notable sector rotation in the equity markets, with the Consumer Staples, Real Estate, Energy, and Health Care sectors experiencing growth, while Consumer Discretionary, Information Technology, Industrials, and Communication Services faced declines. The month began amid disappointing macroeconomic indicators that dampened investor confidence, highlighted by a significant drop in the University of Michigan’s Consumer Sentiment Index. This decline pointed to rising concerns over inflation and trade policies. Additionally, January’s existing home sales fell short of expectations due to persistently high mortgage rates and affordability issues that continued to suppress housing demand.
A troubling development was the first contraction in the services sector, as shown by the Purchasing Managers’ Index (PMI). This shift, not seen in over two years, raised alarms about potential economic headwinds. These indicators fueled speculation that if the Federal Reserve maintained its restrictive monetary policy for a prolonged period, it would add further pressure on equity markets.
The earnings season for Q4 2024 presented a mixed landscape. While the S&P 500 achieved an impressive 18% year-over-year growth—the strongest since Q4 2021—prominent disappointments like Nvidia’s results shook market confidence. Despite beating revenue forecasts, concerns over slowing future growth led to a significant drop in its stock price. Meanwhile, several major retailers cited cautious consumer spending and inventory challenges, resulting in weaker guidance
Amid heightened geopolitical risks, including fresh tariffs announced by the Trump administration, investors grew increasingly uneasy over potential trade conflicts. These developments exacerbated concerns of stagflation, characterized by rising prices and slowing economic growth. Consequently, the Dow Jones Industrial Average saw its most substantial single-day drop of the year, plunging over 700 points, while the S&P 500 and Nasdaq Composite also retraced early gains.
In this climate of uncertainty, market caution has been essential. As traders monitor upcoming economic data and Federal Reserve communications, portfolio diversification and prudent risk management will remain critical in navigating the complexities of the financial landscape.
Holdings
Sector
Consumer Discretionary
Consumer Staples
Communication Services
Energy
Financials
Health Care
Industrials
Information Technology
Materials
Real Estate
Utilities
Outlook (relative to benchmark weighting)
Neutral
Neutral
Neutral
Neutral
Neutral
Neutral
Neutral
Underweight
Neutral
Neutral
Overweight
Sector Review
Consumer Discretionary: The Consumer Discretionary composite model declined with the March update. Measures of trend, overbought/oversold reversals, momentum, breadth, housing starts, and long-term interest rates are now negative. We are reducing exposure to a neutral allocation.
Commentary: So far in 2025, the Consumer Discretionary sector has faced significant challenges, emerging as the worst-performing sector thus far. Investors have shifted their focus to defensive sectors, notably Healthcare and Consumer Staples, amidst rising inflation concerns. The latest Consumer Price Index report revealed a year-over-year inflation rate of 3.2% and a 0.2% month-over-month increase in core prices. This stronger-than-anticipated inflation data has tempered expectations for imminent Federal Reserve rate cuts, leading to a rise in 10-year Treasury yields to approximately 4.5%. Higher yields have pressured Consumer Discretionary stocks, impacting major players like Tesla and Home Depot due to increasing borrowing costs for significant purchases. Earnings reports from Q4 2024 displayed mixed results, with firms like Amazon and Nike experiencing post-earnings sell-offs despite solid holiday sales driven by profit-taking and high valuations. In contrast, off-price retailer TJX Companies thrived as consumers sought value amid inflation. The sector has also been affected by tariff-related cost increases, particularly impacting manufacturers in apparel and electronics. Overall, the sector’s performance in February reflected a complex interplay of persistent inflation, cautious Fed policy, and evolving investor sentiment, highlighting both challenges and emerging opportunities within the space.
Consumer Staples: The composite model improved to neutral, with measures of overbought/oversold, breadth, national financial conditions, and food sales growth metrics positive. Conversely, indicators calling trend, momentum, net new highs, short interest, pricing power, and valuations are negative. The net result is that we are modestly adding exposure and are now neutral overall.
Commentary: In February, the S&P 500 Consumer Staples sector demonstrated resilience amid challenging macroeconomic conditions and shifting investor attitudes. Inflation concerns were at the forefront, with January’s Consumer Price Index revealing a year-over-year increase of 3.2% and core prices rising by 0.2% month-over-month. This inflationary environment enhanced the appeal of consumer staples, as products such as food, beverages, and household items typically maintain steady demand despite price fluctuations. However, the surge in inflation pushed 10-year Treasury yields to approximately 4.5%, leading investors to consider the comparatively lower yields offered by consumer staples. Earnings reports for Q4 2024, released in early February, painted a mixed picture. Major players like Procter & Gamble and Coca-Cola showcased resilient demand, capitalizing on their pricing power despite rising costs. At the same time, Walmart benefited from its value-focused strategy amid consumer inflationary pressures. In contrast, smaller firms struggled, with only about 60% of sector companies exceeding earnings expectations. Investor sentiment favored staples as a haven amid volatility in growth-oriented sectors, indicated by technical indicators showing the Consumer Staples Select Sector SPDR Fund (XLP) above its 50-day moving average. However, the sector faced challenges from potential trade policy changes and the risk of an economic slowdown, underscoring its defensive stance.
Communication Services: The composite model improved to neutral, with mixed technical and fundamental indicators. Valuations and short-term trend and yield curve trend indicators are supportive. Short-term overbought indicators are headwinds. We increased exposure and are now neutral.
Commentary: In February, the S&P 500 Communication Services sector faced a challenging environment. The January Consumer Price Index (CPI) increased, with core prices rising 0.2% month-over-month, exceeding expectations. This uptick prompted a rise in 10-year Treasury yields to approximately 4.5%, adversely affecting growth stocks like Meta and Alphabet that depend on discounted future cash flows. Additionally, Fed Chair Jerome Powell’s hawkish comments indicated no forthcoming rate cuts due to ongoing inflation and a robust labor market, which impacted sentiment toward high-valuation stocks while favoring stable telecom companies like Verizon. Q4 2024 earnings results portrayed a mixed landscape; tech-centric firms such as Alphabet and Netflix experienced revenue growth from advertising and streaming but faced post-earnings sell-offs amid concerns about ad spending in the inflationary environment. In contrast, telecom leaders like AT&T were likely buoyed by steady subscriber growth and ongoing 5G investments. Sector rotation saw investors shifting from growth-oriented companies to more defensive sectors, contributing to volatility, while 31.4% of the sector’s revenue came from foreign sources, highlighting the sector’s global exposure.
Energy: The composite model remains neutral, with relative strength, rig count, and U.S. dollar indicators positive, and overbought/oversold, volatility, breadth, cash flow, inventory, and term-structure indicators negative. The net result is a low-neutral allocation.
Commentary: West Texas Intermediate (WTI) crude oil fluctuated between $68 and $75 per barrel, a level supported by strong U.S. production—nearing record highs due to favorable policies from the Trump administration—and OPEC+ production cuts aimed at maintaining stability in global supply. While upstream firms like ExxonMobil benefitted from these conditions, refining companies such as Valero faced squeezed margins as the gap between crude and gasoline prices narrowed. Additionally, natural gas prices surged, driven by regional demand and Europe’s heightened need for liquefied natural gas (LNG) amid ongoing supply disruptions, favoring companies like EQT Corporation. Q4 2024 earnings reports, released in early February, indicated mixed profitability across the sector. Midstream firms like Targa Resources likely excelled due to steady cash flows from transportation and storage, relatively insulated from volatile prices. Conversely, refiners struggled with excess capacity and decreasing gasoline demand, impacting companies like Marathon Petroleum. Despite favorable policies boosting exploration sentiment, traditional fossil fuel companies dominated market performance, overshadowing the nascent renewable energy segment. Overall, the energy sector demonstrated some resilience despite challenges in refining and supply dynamics.
Financials: The composite model declined with the March update and is now neutral. Positive indicators include relative price trends, lower financial sector volatility, relatively muted downside drawdowns, intermediate-term strength in the U.S. dollar, and G10 economic releases generally outpacing expectations. Negative indicators include overbought conditions now in place, a slight uptick in financial institutions’ credit spreads, slowing bank loan growth, and a just-inverted yield curve. Given the model decline, we are reducing financial sector exposure to a neutral allocation (relative to the benchmark).
Commentary: The financial sector, encompassing banks, insurance companies, capital markets, and consumer finance, navigated a complex landscape influenced by interest rates, regulatory changes, and operational challenges. The interest rate environment remained a critical factor; January’s Consumer Price Index indicated a 3.2% year-over-year inflation rate while 10-year Treasury yields hit 4.5%. This environment supported net interest margins (NIM) for major banks like JPMorgan Chase and Bank of America, enabling them to benefit from higher loan yields compared to deposit costs. However, cautious remarks from Fed Chair Jerome Powell led to uncertainty regarding potential rate cuts, impacting mortgage banking revenues reliant on lower rates for refinancing. In earnings reports for Q4 2024, major banks such as Goldman Sachs and Morgan Stanley experienced significant growth, driven by a 33% increase in capital markets activities, particularly a 52% rise in investment banking. In contrast, insurance firms like AIG faced a year-over-year decline of 11% due to rising claims. Overall, while the financial sector demonstrated modest gains, these were tempered by challenges in insurance performance, slow loan growth, and overarching macroeconomic uncertainties.
Health Care: The HC composite model improved, and we are adding exposure. Price trends, short-term momentum, breadth, increases in the CPI for medical care (pricing power), higher health care personal expenditures, valuations, and earnings revision breadth are supportive. We are increasing exposure.
Commentary: In February, the S&P 500 Health Care sector experienced notable growth, driven by a combination of macroeconomic trends and sector-specific developments. Pharmaceutical and biotech companies saw robust performance, particularly Gilead Sciences, which reported Q4 2024 earnings forecasts exceeding expectations, leading to a 7.5% stock increase due to optimism around its antiviral and oncology products. Eli Lilly’s weight-loss drug, Mounjaro, contributed to revenue growth despite ongoing supply limitations. Medical device firms like Medtronic benefited from an uptick in elective procedures, although rising inflation-related input costs pressured margins. Earnings results from Q4 2024 were strong overall, with an estimated 65% of sector companies, including Pfizer, surpassing expectations, largely thanks to pricing power and new drug approvals. UnitedHealth Group noted strong membership growth but also rising medical loss ratios, reflecting increased utilization across the sector. Smaller biotech firms faced challenges in securing funding amid high Treasury yields, though leaders like Amgen showcased cash-flow resilience. Regulatory uncertainty persisted, but potential FDA deregulation improved sentiment. Despite these challenges, the Health Care sector demonstrated solid gains, characterized by growth potential and defensive stability amid market volatility.
Industrials: Several indicators rolled over as concerns about economic growth increased. Momentum waned, sector volatility increased, cashflow yields declined, oil futures declined (potentially leading to lower capex from energy infrastructure providers), and the U.S. dollar’s longer-term uptrend is negative. Nonetheless, the sector is oversold, and new lows are expanding, indicating that support may be building. The net result is a slight reduction in exposure to a neutral allocation.
Commentary: In late 2024, the re-election of President Trump introduced uncertainties regarding potential tariffs on imports from key trading partners like China, Canada, and Mexico. Economists warned that such tariffs could reduce global trade by 10% and decrease U.S. economic growth by 1%, negatively impacting corporate earnings and increasing inflation. While trade uncertainties persist, infrastructure investments are expected to sustain demand in the industrial sector, with companies like CRH projecting $7.5 billion in EBITDA for 2025. Earnings reports reflected mixed performance within the sector. Cleveland-Cliffs experienced an $81 million loss due to challenging steel demand, while Johnson Controls reported a strong earnings surge, boosting its stock by 11.3%. FMC Corporation faced a 33.5% decline in stock value due to reduced customer inventory levels. As of February 28, 2025, the S&P 500 Industrials sector’s P/E ratio was 25.98, above its five-year average, suggesting potential overvaluation despite projected earnings growth of 11.1% for the S&P 500 in 2025. Ongoing issues such as rising input costs, labor shortages, and supply chain disruptions continue to pressure manufacturers amidst solid demand driven by infrastructure initiatives and defense spending.
Information Technology: The composite model remains negative, and we continue to be modestly underweight. Momentum indicators are weak, the sector is still overbought longer-term, rising inflation expectations are a headwind (negatively impacting all long-duration assets), and relative valuations are neutral. As for a potential setup for a bullish reversal, a high short-interest ratio for the sector is bullish from a contrary opinion perspective, and earnings revision breadth is positive overall. We remain modestly underweight and will add exposure as technical indicators reverse from bearish to bullish.
Commentary: The introduction of tariffs by the Trump administration on imports from China, Mexico, and Canada heightened costs for semiconductor components, raising concerns about inflation in consumer electronics and potential decreases in corporate tech budgets. Earnings reports revealed mixed results; Nvidia’s earnings modestly beat expectations but led to an 8.5% stock drop due to gross margin concerns, while Alphabet’s shares fell 7.3% despite surpassing profit predictions due to slower cloud business growth. In contrast, Snowflake’s stock surged by 13% due to strong demand forecasts in AI. The broader market saw a shift in investor focus as major tech companies like Apple and Microsoft struggled with high valuations and slowed growth, prompting a rotation towards sectors like finance and healthcare. Overall, the tech sector’s growth narrative remained intact, driven by AI and cloud resilience, but faced headwinds from still-high valuations, supply chain disruptions, and regulatory scrutiny.
Materials: The Materials sector composite model improved, with measures of trend, momentum, oversold, emerging market equity momentum, copper futures trends, valuations, and industrial production for materials now constructive. Conversely, the sector’s relatively high volatility, recent pullbacks in gold and silver, and a relatively low earnings yield are negative. We are increasing exposure in response to the model and are neutral relative to the benchmark.
Commentary: In February, the S&P 500 materials sector struggled, along with Consumer Discretionary, Industrials, Technology and Communications. This sector declined by 0.3%, facing challenges from high interest rates, a sluggish Chinese economy, and concerns over U.S. economic strength. Notably, the materials sector was one of three to report a year-over-year revenue decline in Q4 2024, along with Industrials and Energy, reflecting its vulnerability to economic shifts. Economic indicators, such as weak home sales and dropping consumer confidence, negatively impacted construction-related stocks like Owens Corning, despite the company exceeding earnings expectations with a $3.22 EPS. The looming threat of new U.S. tariffs on Chinese goods further exacerbated pressures on the sector, particularly for major mining firms. In contrast, selected companies like DuPont reported strong quarterly earnings, with adjusted earnings per share of $1.13 and an optimistic 2025 outlook.
Real Estate: The composite model increased in March and we are once again adding exposure. Indicators calling relative price trends, 50-day relative breadth, interest rate trends, construction spending, and improving NFIB Small Business Credit Conditions are bullish. Unfortunately, homebuilder sub-industry trends are negative. We are increasing exposure in line with the model.
Commentary: The real estate sector, primarily encompassing real estate investment trusts (REITs) and management firms, faced challenges linked to interest rates and market dynamics, excluding mortgage REITs. In January, rising 10-year Treasury yields at 4.5% heightened concerns about borrowing costs, pressuring REIT valuations as their dividend yields of 3-4% became less attractive compared to safer Treasuries. This held true even with the slight pullback in rates during February. Despite this, industrial REITs like Prologis benefitted from consistent demand for logistics space due to e-commerce expansion. Earnings reports for Q4 2024 revealed a generally stable outlook; approximately 60% of firms exceeded forecasts, particularly in the industrial and multifamily sectors. Prologis likely demonstrated revenue growth, although increasing property maintenance costs may have impacted margins. Conversely, office REITs, such as Boston Properties, may have struggled due to reduced demand from hybrid work models. As nearly $500 billion in commercial real estate loans are set to mature in 2025, refinancing at higher rates poses risks for leveraged REITs. Despite these pressures, the sector saw modest gains supported by industrial and multifamily strengths amid ongoing headwinds in office and retail spaces.
Utilities: Our sector composite improved again in March, and we remain overweight. Measures calling trend, momentum, overbought/oversold, deviation from trend, breadth, earnings yield, U.S. capacity utilization, and dividend yield are bullish. The main negative is the weakening U.S. manufacturing PMI level. Overall, we remain overweight.
Commentary: The utilities sector, which includes electric, gas, water, and multi-utilities, has responded to various factors such as rising energy demand, regulatory changes, and economic conditions. A significant driver of electricity demand has been the rise of AI data centers and overall electrification trends. Companies like NextEra Energy, through its subsidiary Florida Power & Light, have been well-positioned to meet this increasing demand. As a result, electric utilities generally reported improved load growth forecasts, bolstering their revenue streams. Conversely, natural gas utilities like Atmos Energy faced challenges due to lower demand from milder winter conditions, although they benefitted from stable regulated returns. Earnings reports from Q4 2024 revealed robust growth, with around 65% of utilities exceeding estimates, while NextEra likely reported double-digit earnings increases fueled by renewable energy projects. However, independent power producers such as Vistra struggled, with earnings potentially declining by 10-15% due to fluctuating wholesale prices. Factors like regulatory uncertainty, high debt levels exceeding 5x EBITDA, and inflation at 3.2% also impacted sector stability.
Catastrophic Stop Update
The Catastrophic Stop model combines time-tested, objective indicators designed to identify high-risk periods for the equity market. The model (Figure 1) improved in February and entered March with a fully invested equity allocation recommendation. We will raise cash if our models shift to bearish levels (below 40% for two consecutive days).
Figure 1: Catastrophic Stop Model vs. S&P 500 Total Return Index
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 uses 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.
For more information, please contact us at:
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Smart Sector® With Catastrophic Stop ETF
Symbol: SSUS
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