US Stock Market at the Beginning of the Year: Unprecedented Level of Divergence Since the 1987 Stock Market Crash!

The S&P 500 index closed higher last Friday, but the number of declining stocks exceeded the number of advancing stocks. According to a 30-year analysis conducted by analyst Akshay Chinchalkar, this is not a good sign for US stock investors seeking future returns.

Data released before the US stock market last Friday showed that the number of non-farm payroll jobs in the United States nearly doubled, and expectations for the Federal Reserve to accelerate interest rate cuts cooled significantly, causing a sharp drop in Pro UltrPro Shrt S&Pro 500 futures. However, the US tech stocks turned the tide, with the Big Seven index closing higher for the fourth consecutive week, driving Pro UltrPro Shrt S&Pro 500 to rise 1.3% last Friday.

However, the market breadth is still in negative territory. Among the constituents of Pro UltrPro Shrt S&Pro 500, 276 stocks declined last Friday, while only 223 stocks rose. A negative breadth indicates a bearish market environment.

Data from SentimenTrader also shows that less than 40% of the stocks on the NYSE rose last Friday, creating the largest divergence since Black Monday in 1987.

In response, Michael Purves, founder of consulting firm Tallbacken Capital Advisors, said: "There are basically two stock markets hidden under the same index - one is large-cap tech stocks, and the other is everything else - banks, materials, energy stocks, etc."

"Unless there is a significant acceleration in profit growth in other sectors of the market, this polarization story may continue. Before that, large tech companies may continue to lead the rally."

Chinchalkar's analysis shows that similar situations have occurred 13 times in the past, and in the next 20 days, Pro UltrPro Shrt S&Pro 500 has averaged a 2% decline, with average loss returns 1.6 times the average profit returns.

The average gains in the past 60 days and 100 days are also negative, at -0.3% and -0.8% respectively.

Analyst Alex Semenova also conducted a similar analysis, pointing out that the market breadth of the US stock market not only contracted on Friday, but actually contracted throughout January. The S&P 500 index rose 1.6% in January, while its equal-weighted index fell again, down 0.9%.

In addition, there are many signs of declining breadth in the US stock market.

According to data from Bank of America, out of the 11 industries in the S&P index, only 5 saw gains, with only 34% of stocks outperforming the index, the third worst in history.

As of the end of January, the Russell 2000 index, which measures the valuation of small and medium-sized enterprises, had fallen by about 4%.

Bank of America analyst Savita Subramanian pointed out in a report to clients last Friday that last month, the so-called Nifty 50 (the top 50 blue-chip stocks) rose 3%, while the remaining 450 stocks fell 0.2%, a performance "consistent with the profit revisions so far this year."

Bank of America maintains its general expectations for the top 50 stocks in 2024, but predicts that the remaining 450 stocks will fall by 1%.

"While not as extreme as during the tech bubble, the weight of the Nifty50 index is starting to exceed its earnings weight, indicating that much of the news has been digested into the mega-cap stocks," Subramanian wrote.

Craig Johnson, Chief Market Technician at investment firm PiperSandler, also expressed his concerns about the US stock market.

He pointed out that from a technical perspective, some breadth indicators have pulled back from their annual highs in recent weeks, although these indicators have not yet issued sell signals, his team has enough divergence to "temper our optimism."

Federal Reserve Chairman Powell said it is "unlikely" to cut interest rates in March and expects three rate cuts in 2024, a view that has not changed since December last year.

In response, Chinchalkar said, "To what extent this will become a headwind for the stock market remains to be seen, but history tells us that ignoring market breadth is usually not a good idea."