The story of the day was the small-cap stocks, a topic near and dear to my heart. Some might say I have not stopped harping on this subject for months (they would be correct!). But it seems that Monday was a bit of a Realization Day as everywhere you turned people were discussing the collapse in the Russell 2000.
(A Realization Day is when folks finally realize 'why' something which has been moving for weeks/months is moving. In other words, now they have a 'story')
Up until about a week ago the narrative I heard was that small-caps had outperformed all year because of the Trade Wars. Each time I heard that comment I would look at the chart of IWM relative to the S&P and see the decline since June and wonder, what the heck are these folks talking about?
Then came Monday's NAFTA deal and despite the early surge, the Russell could hardly get out of its own way. I think it took less than an hour for it to turn red. By the end of the day the narrative had become that you can't/shouldn't own the small caps because of NAFTA.
So we were supposed to own them until Monday? Yet small caps have under performed since June. I guess there is nothing like price to change sentiment.
Let's take a look at the chart I have shown here countless times in the last 3+ months, IWM relative to SPY.
This ratio peaked in June just over .61, right at the Russell rebalancing and has been heading downward ever since. It had that small uptick in August (nothing goes down in a straight line) and then came September which was an absolute swoon in the ratio. No one cared. Not until Monday that is.
My contention all along has been that this ratio tends to trade in a range, with the red line being the top and the blue the bottom. If we went back even more than five years you would see that sometimes we exit the range (see early 2016 for example) but we tend to come right back into it.
I have said that I thought as this neared the bottom of the range we would probably find small caps attractive again. The bottom of the range is .56; we are at .57. That might seem close, but it takes quite a lot to get that last move.
Now that everyone has decided that small-caps are not the place to be we will probably see an uptick in the ratio before heading down again. However overall, we are much closer to the bottom of the range than we were even just last week.
In the meantime the number of stocks making new lows expanded once again and as I'm sure you saw breadth was not good. The best news was that the put/call ratio was 101% so that makes two consecutive days with the ratio over 100%, meaning the giddiness we saw two weeks ago is evaporating.
