2023-11-28 17:50:56 ET
Summary
- Small and mid-caps are trading tight and setting up for potential breakouts higher, which could lead to broadening market breadth.
- Rotation is the lifeblood of a bull market. Outperformance in small and mid-caps over large, mega caps would likely lead to a more sustainable broad-based market rally.
- The Russell 2000, as a proxy for small caps, is still trading at levels last seen in 2018. There is huge catch-up potential in this space.
- I would suggest buying Russell 2000 ETF at current levels.
As the saying goes, "rotation is the lifeblood of a bull market".
Small and mid-caps are now trading tight, and setting up for breakouts higher. If these breakouts materialise, then that would likely mean broadening market breadth, a constructive development.
Since the recent market bottom on 27 October, the S&P 500 ( SPY ) and Nasdaq 100 ( QQQ ) have outperformed small and mid-caps.
The performances since 27 October have been as follows. I used the Russell 2000 ( IWM ) and SPDR S&P MIDCAP 400 ETF Trust ( MDY ) as proxies for small caps and mid-caps respectively.
SPY: + 10.7%.
QQQ: + 12.7%.
IWM: + 10.2%.
MDY: + 9.9%.
Performance comparison chart: SPY (in purple), QQQ (in orange), IWM (in teal), MDY (in yellow)
While both the SPY and QQQ are about -5% from fresh all-time highs, IWM and MDY are lagging severely. They are -27% and -13% away from their all-time highs, respectively.
Below, we may see the long term monthly chart of IWM. IWM is trading at levels seen in 2018, while the SPY and QQQ are nowhere close to theirs.
IWM is currently testing long term support levels, and is finding buying demand at this area so far.
Monthly Chart: IWM
When we drill into the daily chart of IWM, we may observe that price has formed a tight trading range in recent days, while surfing the 10 day moving average higher.
It looks likely that IWM breaks out higher from this tight flag, and embarks on its next burst higher. We may also observe that IWM broke above downtrend resistance on 14 November, which is a constructive development.
Daily Chart: IWM
We see a very similar technical picture in mid-caps, as represented by the MDY ETF. MDY also has that range-bound look to it, and found support at structural support dating back to 2018.
Monthly Chart: MDY
From the daily chart, we can see that MDY is also building out a tight flag, and a breakout higher looks imminent.
Daily Chart: MDY
If small and mid-caps do breakout higher, this will likely mean more sector rotations in the market. As mentioned earlier, "rotations are the lifeblood of a bull market".
Below, we can see that the sector weights within the IWM ETF are more diversified, with technology, industrials, healthcare, financial services, and consumer cyclicals all enjoying above 10% weights.
Sector weightings: IWM
Yahoo Finance
In comparison, we may observe that technology dominates the sector weighting in the SPY, accounting for 28%. Hence, we will likely observe a more broad-based rally if the IWM outperforms the SPY in an uptrending market.
Sector weightings: SPY
Yahoo Finance
The initial signs of a bullish turnaround in small and mid-caps bode well. For one, financials ( XLF ) are flashing bullish signs from a technical perspective.
XLF found buying demand at structural support dating back to 2018, and most recently, broke above downtrend resistance.
Monthly Chart: XLF
Industrials ( XLI ) are also performing well, and look to be trending higher. Similar buying demand came in at the structural support dating back to 2018, and the ETF is close to new all-time highs.
Monthly Chart: XLI
Overall, small and mid caps appear to be setting up for breakouts higher.
Small and mid-caps have lagged large/mega caps in recent years, with IWM ETF still at levels last seen in 2018. This could be an attractive buying opportunity.
If the breakouts in small and mid-caps materialise, then we are likely to see improved market breadth, and a more sustainable broad-based market rally.
I would suggest buying IWM at current levels.
For further details see:
Small And Mid-Caps Setting Up For Breakouts Higher (Technical Analysis)