June 10, 2020
Recent strength in cyclical/value sectors is unwinding for a second consecutive session. It’s too early to make a call and we suspect today’s Fed meeting will have some influence in near-term sector dispersion. Also note some non-confirmation in cross-market indicators like the Gold/Copper ratio that continues to decline. Sector dispersion tends to precede an inflection point in the business cycle by several weeks. New highs in the S&P 500 based on defensive sector leadership are a reason to be cautious and new lows on decelerating cyclical sector price momentum are a reason to anticipate a reversal. Higher bond yields and a steeper yield curve are ultimately required for lasting cyclical sector outperformance because bond yields reflect market expectations for inflation/growth. During the last ~15 years, cyclical sector outperformance without higher yields and curve steepening have typically lasted about 1-3 months. We’ve been expecting this episode to only last through June, but still willing participants as relative valuations for cyclical/value companies with sustainable dividend yields reached their lowest level in my lifetime. Btw, fading cyclical sector leadership from here doesn’t imply an end to improving economic conditions, it just implies light inflation trends/disinflation…and you know what that looks like.