The Smaller They are, the Harder They Fall

Wednesday, April 24, 2019
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The smaller they are, the harder they fall?

That may not be how the famous saying goes. But it’s an accurate description of what’s happening in today’s stock market – and that’s one reason the powerful 2019 advance may be living on borrowed time. Let me explain ...

Our Weiss Ratings coverage database is broad, deep and full of incredibly useful and interesting data for individual and institutional investors. We currently track more than 9,200 primary, common stocks listed in the U.S. and Canada, and issue letter grade Ratings that fall into the traditional BUY, HOLD and SELL categories.

One thing that’s been nagging at me lately? If you chart the ratio of BUYS to SELLS in our Ratings universe, you find that while it has improved lately, it’s nowhere near the old highs.

Look at this chart of the BUY/SELL ratio, and you’ll see what I mean …

Our proprietary ratio actually peaked in the summer of 2017, noted with a number “1.” Then it made a slightly lower high in January 2018 (point 2), an even-lower higher in September 2018 (point 3), and (so far), an even lower high than that a few days ago (point 4).

This all occurred even as the S&P 500 managed to notch slightly higher highs. Or, in the current case, came within a whisker of doing so.

What does this tell you? The market rally isn’t broadening out. Instead, it’s narrowing. We’re seeing less and less participation among smaller stocks even as the major averages ... which are dominated by larger-capitalization stocks ... are pushing higher.

Here’s another chart that shows this trend clearly. It measures how far off their highs five benchmark ETFs are trading:

The SPDR S&P 500 ETF (SPY, Rated “C+”), the Invesco QQQ Trust (QQQ, Rated “B-”), the iShares Core S&P Mid-Cap ETF (IJH, Rated “C”), the iShares Core S&P Small-Cap ETF (IJR, Rated “C”), and the iShares Micro-Cap ETF (IWC, Rated “C-”).

Just like their names suggest, the last three ETFs focus on stocks with smaller and smaller market caps.

The QQQ shows a big fat “0” in the percent-off-high measure because it just notched a new record. The SPY, for its part, is only 1% off its prior peak.

But look at the IJH, the mid-cap ETF. It’s around 5% below its high. The small-cap IJR is 12.9% below its high. And the micro-cap IWC 15.4% off its high.

Again, the message is clear:

On average, the smaller the stock, the more it declined in the first place … and the less vigorously it rebounded afterward.

This doesn’t mean the market is 100% guaranteed to be doomed. It IS possible those lagging, smaller companies will play catch-up.

But we sure haven’t seen it happen yet. And the series of lower highs and lower lows in our BUY/SELL ratio chart is somewhat troubling.

My advice?

Listen to the message coming from the data, including our own. Use the Weiss Ratings as a guide for which stocks to buy or stick with, and which to sell or avoid. And continue to maintain a higher allocation to cash than in the past, just as I’m recommending my Safe Money subscribers do. (You can join them, and get specific BUY and SELL recommendations, by clicking here.)

The major averages, including the S&P 500, tested all-time highs yesterday. But the issues I just covered remain flies in the ointment, and worth watching as an investor.

Until next time,

Mike Larson

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