When it comes to analyzing stock market sectors, it’s tempting to just follow the direction of an index. This strategy works well during periods of strong positive or negative trends. However, at turning points, it’s crucial to delve deeper and not miss important changes in direction.
One effective way to gauge the underlying strength or weakness is by examining the advance/decline line. This line is calculated by subtracting the number of stocks that closed lower on a given day from the number of stocks that closed higher.
Despite the hype surrounding artificial intelligence, the technology sector has been showing signs of weakness. While various tech indexes have been hitting new highs, their advance/decline lines have been declining. This indicates that more tech stocks are actually declining, even as a few mega-cap stocks push the indexes higher.
A closer look at the S&P North American Technology Sector Index, which includes over 300 stocks, reveals that its advance/decline line is significantly lower compared to a year ago. Despite the index remaining unchanged since January 2021, the decline in the advance/decline line is a cause for concern.
In contrast, the energy sector is experiencing strength. The advance/decline line of the S&P Composite 1500 Energy index has surged to new highs, even though the energy indexes themselves are below their highs. This is one of the reasons why I predicted in my July 8 Institutional View report that oil prices were bottoming out.
Considering the downward trend of tech stocks and their indexes hovering near their 52-week highs, it would be wise for investors to reduce their positions in technology and consider rotating into energy instead.