More and more sectors are breaking out. That’s not bearish.
We’ve all heard about the dominance of mega cap growth stocks, and with the Meta and Amazon earnings impressing last night, that strength is set to continue. It’s not just the high-flyers that are performing well, though. Yesterday, the S&P 500 Industrials sector closed at a new all-time high.
Perhaps that doesn’t impress you. After all, the Industrials were the first sector to set new highs last year, and they’re now 7% above the bull market peak set back in 2021. this latest breakout is just a continuation of that strength.
It’s not just the Industrials.
Health Care just closed at its highest level in almost 2 years.
This is an area that was completely out of favor for most of the last year. During 2023, the Health Care sector underperformed the benchmark S&P 500 index by 20%, falling from 7-year relative highs to near multi-year relative lows. What better place for Health Care to bottom?
Health Care has found support here at the exact same place it did back in 2021. What we really like is the bullish momentum divergence at these lows. After getting severely oversold on the initial test of those lows last November, RSI hasn’t dropped below 30 on subsequent declines. We saw the same types of momentum divergences at the 2020 and 2023 peaks and the 2021 bottom.
It’s not all good news. Seasonality could present a problem over the next month, since February is the single toughest month for Health Care. The sector has declined by an average of 0.75% in all Februarys since 1990.
And on a relative basis, the weakness extends throughout the next quarter. Health Care has lagged the rest of the S&P 500 by 0.67% on average in the month of February since 1990, and by 0.55% in March.
But remember that seasonality is a general guideline, not a prescription. Even in those two months, where the sector has underperformed the S&P 500 most consistently, Health Care has still won out a third of the time. This year could easily be the ‘one’ in the one-in-three.
Our target here on the XLV is $155, which is both the 261.8% retracement from the 2020 decline and the 161.8% retracement from the 2021-2023 range.
But we only want to be betting on the Health Care sector if we’re above the former highs of $141. Otherwise, it’s a rangebound mess that we want no part of.
Whichever way the large cap sector resolves, we expect the small caps will follow. Small cap health care has been significantly worse than the large cap space, having declined as much as 47% from the 2021 highs and spending most of the time since then stuck below a declining 200-day moving average:
Right now, though, PSCH is above its 200DMA, threatening to break a 2-year downtrend line, challenging overhead resistance from the 2022 lows, and just saw momentum reach its highest level in 3 years. A sustained break above $43 would be confirmation that Health Care stocks are an area of strength.
We think that’s the higher likelihood outcome, and we’re betting on outperformance from the Health Care sector in the months ahead.