Risk Appetite and Spreads

I think I am off a day because I did not go to work on Monday. Feels like Thursday for some reason. I don't know.

Risk Appetite and Spreads

Forget it! This is a clean blog, unlike SOME other ones I have seen on the Internets....

In a few previous posts I have compared the S&P 500 with some "safe" sectors, usually tobacco (I use the stock RAI as proxy) and the utilities sector (XLU), to get a feel for how much risk appetite market participants are showing at any given time. I look at these charts every day, but now is a good time to do a blog post as there are some interesting things going on. The thing about comparing sectors too keep in mind is that spreads can contract or widen by:
-One component dropping hard
-One component blowing up higher
-One component shows increased growth while the other either slows or stalls
What I am saying is if the SPX is rising it does not mean tobacco or utilities will collapse, but maybe they will under perform, and vice versa.

Note: I actually prefer the uncluttered Yahoo basic comparison charts for this type of work, but you can always make your own.

Here is RAI vs. SPX for a 6 month time frame:

The spread between RAI and the SPX is the most narrow since the October-early November 2010 market top. I would say that the October compression of the spread was a fast event while the compression since early December has been a more gradual closure. Also tobacco is not falling off a cliff, it has slowed but the sector has good growth and still is attracting money. This is a better environment than a risk on/risk off panic.

Here is a 6 month comparison for the XLU and the SPX:

For the first time in 6 months the SPX has now crossed above the XLU since mid January. It's clear in late December money rotated out of utilities and a bunch flowed into stocks. The run has not weakened as yet. Again, utilities have come in, but they are not spiking down in a risk on kind of frenzy. I view this as a positive for the market.

Backing out for a two year view of the XLU vs the SPX:

I think this chart is important for three reasons:
-The late August 2010 run in the SPX finally crossed over the XLU around mid October, paused, then resumed it's run for another 3 months. The Armo Trader has some comparison charts worth a look on this time period compared to now as well.

-Notice the utilities, while lagging, were not getting killed over that time. They performed, but underperformed the SPX.

-By a highly sophisticated technical method I use, it's called counting, I count 6 months where the SPX was entangled or lower than the XLU in May - October 2010. Applying the same count starting at August 2011 I arrive at the here and now of late January - February 2012. And the SPX just crossed over.

6 months of indecison. 6 months of fear. 6 months of macro headline panic mornings. Maybe these things need 6 months to work themselves out. I will FULLY grant that the late summer of 2010 had the promise of QE 2 and it was delivered right in the fall, that is a real tangible that markets do not have right now. Still, the action and the charts carry weight in their relationships.

Have a good night.