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Worrisome Disparity Forms in the Stock Market, Investors Beware Lombardi Letter 2020-08-31 08:16:03 stock market S&P 500 nasdaq stocks On the surface, the stock market seems to be showing stellar performance, but there are some troubling disparities that shouldn’t be ignored. Here’s what investors should know. Stock Market https://www.lombardiletter.com/wp-content/uploads/2020/08/trader-businessmen-analyze-stock-graph-and-report-set-targets-for-online-forex-trading-market_t20_WgppYV-1-150x150.jpg

Worrisome Disparity Forms in the Stock Market, Investors Beware

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Investors Beware: Alarming Disparity Forms in the Stock Market

Stock Market Makes All-Time Highs, but Not All Companies Are Involved

There’s a fundamental flaw in the stock market. You won’t hear about it in the mainstream media, but it’s worrisome. Stock investors be careful!

Key stock indices are surging to their all-time highs. You might have heard all about how the Nasdaq has skyrocketed and the S&P 500 is skyrocketing.

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On the surface, this sounds great.

Here’s the thing though: as the stock market surges, a massive disparity forms.

You see, when indices are making all-time highs, one would assume that the majority of the components that make up the index would be trending higher and also making all-time highs.

This is not the case.

To see what’s happening, look at the chart below.

The red line on the chart plots how many of the S&P 500 stocks are trading above their 200-day moving averages. Technical analysts use this moving average because it’s essentially a trend indicator. If a stock trades above this moving average, it means the long-term trend is pointing upward. If a stock trades below this moving average, it means the long-term trend is pointing downward.

The cyan-colored line on the following chart is the trajectory of the S&P 500.

Chart courtesy of StockCharts.com

Do you notice something interesting on the chart?

At the moment, about 61% of the companies on the S&P 500 are trending upward, and this is happening as the stock market hits an all-time high.

Let’s go back to the previous peak, which was in early 2020. At that time, the S&P 500 made an all-time high when about 80% of the companies in the index were trading above their 200-day moving averages.

Go back further to 2013.

At that time, the stock market was breaking above its 2007 highs. Then, close to 90% of the companies in the S&P 500 were trading above their 200-day moving averages.

Lastly, look at the overall trend: the S&P 500 has made all-time highs and there have been fewer and fewer companies trading above their 200-day moving averages.

This Disparity Won’t End Well

Dear reader, to the naked eye, this observation may mean nothing, but for those who are long-term investors, it should matter a lot.

Mark my words. This disparity, in which a large number of companies continue to trend lower while indices trend higher, won’t end well.

At its core, the chart above is saying two things:

  1. The index going up in value doesn’t really tell us much about how components of the index are doing. One would assume that the index is reflective of all companies. At the moment, nearly 40% of the S&P 500 companies are trading below their 200-day moving averages, trending downward, but the index marches on higher.
  2. There could be just few companies driving the index higher.

Why is this worrisome? This disparity on the stock market is essentially creating an illusion that everything is great when it’s not.

Investors: be careful when it comes to picking stocks. You might think all stocks are doing well, but they aren’t. Be selective and focus on due diligence.

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