As mentioned in my last post, there is increasing evidence that the broader market is preparing for a pullback.
Various technical indicators have moved into overbought territory. And this comes just as the major indices are hitting major resistance levels from earlier in the summer.
Although I expect the situation to be eventually resolved to the upside, we’re likely to see a retest of the August lows first.
Institutional investors are obviously thinking the same thing as there has been a marked shift away from cyclical issues like semiconductor and materials stocks in favor of defensives like consumer staples and health care.
Over the past week, the Semiconductor HOLDRs (NYSE: SMH) is down nearly -5% while the Health Care SPDR (NYSE: XLV) is up +2.3%. Consumer Staple SPDR (NYSE: XLP) is up +1.4% over the same period.
This is really a continuation of a trend we’ve seen all year. Remember that the broad stock market really hasn’t really gone anywhere over the past year. In fact, the NYSE Composite Index, shown in the chart above, is currently trading at levels that were first reached September 16, 2009. That means the largest stocks have largely been dead money for 12 full months.
But over that time, defensive high-yield stocks have done well. According to Credit Suisse calculations, three of the five sectors that have outperformed so far this year are defensive in nature — telecom services, consumer staples, and utilities. And the sectors that have lagged are primarily cyclical in nature.
Will the trend continue?
The team at Credit Suisse certainly thinks so, and maintains a defensive bias for its recommended U.S. equity portfolio. In their words, “‘low beta’ and ‘high yield’ remain positive attributes in the current volatile market place.”
I agree, and recommend investors focus on defensive issues as a way to insulate their portfolios against further market weakness. Although bonds traditionally fill this role, they are also falling out of an overbought condition. With all this in mind, the easiest way to get exposure is through the XLV and SMH exchange traded funds. For more specific plays, be sure to check out the major drug makers including Merck (NYSE: MRK) and Pfizer (NYSE: PFE). Among the consumer staples names, I like grocers Safeway (NYSE: SWY) and Kroger (NYSE: KR).
As of this writing, Anthony Mirhaydari does not own a position in any of the stocks named here. Be sure to check out Anthony’s new investment advisory service, the Edge, which is launching in September. He can be contacted at anthony.mirhaydari@live.com. Feel free to comment below.
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