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A Brief Glimpse of the Rotation Ahead

This week we got a quick peek at what the much-talked-about market rotation might look like. Monday brought a significant divergence among the benchmark averages with the DOW up 1.3%, the S&P 500 up .28%, and the NASDAQ down .39%. That is a reversal of the trend that we’ve seen in the past couple of months as the NASDAQ roared to a new record bull market high while the other benchmarks languished within a trading range below their February 19 peak levels.

The rotation we speak of is the reallocation of capital from the few mega-cap Growth issues that currently over-weight the S&P 500 and NASDAQ along with such ‘stay-at-home” winners as ZOOM, Docusign, and Twolio. That capital is headed to the “epicenter” stocks. Those are the Cyclicals that traditionally assume market leadership at the onset of any recovery that occurs at the midpoint of a trough in the economic cycle. Identifying where the economy actually is within the cycle isn’t an exact science. That’s why we’ve said that any reallocation of capital within the market can be a somewhat chaotic process and not a clearly defined event. It also explains why Monday was only a brief preview of what’s to come.

The rest of the week brought a massive reversal of early session gains and a close on the lows on Tuesday. The week finished with a rally favoring the NASDAQ once again and featuring several failed attempts by the S&P 500 to close above its February high. Looking through the veneer of the indexes, we’re seeing the banks, transports, and airlines catching a bid while Industrials, Energy, Financials, and Materials sectors lead the performance parade month-to-date.

This week’s market action confirms our belief that trend-change is dead ahead. As diversified investors, we’re freed from the necessity of making radical changes to portfolios in response to recent developments. We’re already represented in recovery-favored sectors and need only to engage a gradual rebalancing that increases their weight in portfolios relative to that of the mega-cap tech and consumer discretionary stocks.

The rate of economic recovery and timing of a full-on rotation will be defined by the course of the virus and the policy response to it in the months ahead. For us, it’s not a matter of if but when recovery is declared. We’re not expecting anything more than a correction at worst and that is only a remote possibility. We expect capital to be reallocated among sectors rather than leave the market for meager returns in other asset classes. Investors who deploy some of their record level of cash among select pre-COVID names will likely be rewarded in 2021.

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