Let me start by reminding everyone that I believe the most important relationship in the stock market is how consumer discretionary stocks (XLY) perform relative to consumer staples stocks (XLP). This ratio (XLY:XLP) has a VERY strong positive correlation with the S&P 500. In other words, when the S&P 500 advances, a corresponding rise in the XLY:XLP ratio is to be expected. When it doesn’t rise to corroborate the benchmark’s rally, it typically leads to lack of S&P 500 follow through.
I’ll show you visually what this positive correlation looks like since the turn of the century:
From this chart alone, it’s clear that what happens to consumer stocks, and their relationship to one another, really matters in the grand scheme of things.
Now let’s look at an intraday chart of the XLY and XLP from last week:
The top panel is the XLY and the bottom panel is the XLP. Does anything seem odd to you? Well, for me, the action on Friday and the disparity between the performance of both consumer stock groups really stands out. And when I did some research, I found that this type of disparity where the XLY underperforms the XLP by such a large margin has occurred only 10 times since the financial-crisis-related bear market that ended in March 2009. 8 of those times happened during bear markets and 1 happened during a correction. Friday was the 10th. This type of massive rotation from offense to defense should not be overlooked.
In early January 2025, I hosted our MarketVision 2025 event. At that time, I indicated that we were set up for a challenging Q1 and a potential market correction and, on Friday, we got confirmation. I expect we’re going to see much more selling in the coming weeks.
But how much? I plan to discuss that in my next free EB Digest article on Monday. To start your FREE subscription (no credit card required), CLICK HERE and join tens of thousands of other like-minded traders and investors, and find out what to expect over the balance of Q1.
Happy trading!
Tom