S&P Laggards May Be Ready to Outperform the Tech Giants

07/22/2020 10:29 am EST


Joon Choi

Senior Portfolio Manager, Research Analyst, Signalert Asset Management LLC

The Tech giants—Apple, Microsoft and Amazon—have outperformed the broad S&P 500, this may be ready to reverse, reports Joon Choi.

As of this writing, the S&P 500 Index is only 0.2% away from its post-pandemic high reached on June 8, meaning the index has been virtually flat for the past five weeks. However, there are a group of mega-cap stocks that have reached double digit gains during this same time frame.

Here, I will discuss some investors’ appetites for the largest of the large-cap companies.

Largest members of the S&P 500 Index

Since the market bottom in March 2009, technology stocks as represented by the Invesco QQQ Trust Series 1 ETF (QQQ) have outperformed the SPDR S&P 500 ETF Trust (SPY) with an annual return of 23.6% vs. 16.9% respectively. So, it is no surprise that the top five holdings of SPY are technology companies (see table below). In addition, four top members: Apple (AAPL), Microsoft (MSFT), Amazon (AMZN) and Google (GOOG) exceed $1 trillion market-cap.

Spy holdings

Not only are the top three members technology companies, their business models depend on providing products and services to both consumers and corporations. These three companies appear to be a cut above the other two members in the top five list. As a result, I will refer to this group as AMA (Apple, Microsoft and Amazon).

Mega-caps are carrying SPX

The Invesco S&P 500 Equal Weight ETF (RSP) is an exchange traded fund that equally weights all the components in SPX and none of its stocks’ current weighting is more than 0.25%. This ETF provides a fair assessment of how all the SPX members are performing. Since Jan. 26, 2018 (a peak prior to a market correction), RSP gained 1.1%, meaning that the average stock in SPX was flat for nearly 30 months (see chart below). However, SPY appreciated 17% during the same period, largely due to AMA’s performances (AAPL: 134%, MSFT: 130% and AMZN: 120%).


RSP has been lagging SPY

The RSP/SPY relative strength spread had been trending downward until 2019 year-end where it sharply fell in the first quarter of 2020, especially since the end of February when Covid-19 worries escalated (see chart below). The Relative Strength made a low on May 13 (Point A), almost two months after the stock market bottom of March 23. It revisited the low on July 9 (Point B) as equity prices were rising, which is a rare occurrence since Relative Strength tends to fall during weak equity climates. RSP sharply rebounded against SPY by 2.8% (5.2% vs. 2.4% respectively) from Point B through the July 14 close.

relative strength

AMA versus RSP

I created a new price index named AMA by averaging daily changes of Apple, Microsoft and Amazon, which I divided by RSP to monitor the relative performance (see chart below). I inserted a best-fit line since 2018 (red dotted line) which is a trend line essentially. As you can see, AMA/RSP is currently stretched from its trend line which leads me to conclude that we may see a sharp relative underperformance of AMA in the weeks to come.



It appears that investors are shunning companies adversely affected by the pandemic (i.e. airlines, hotels, hospitality industry etc.) in favor of mega-cap technology companies as an economic downturn may have very limited effect on their earnings or may even benefit from the crisis, i.e. Amazon.

This investment behavior has led to the relative underperformance of smaller companies vs. their larger counterparts. In addition, AMA trading seems very crowded and stretched as compared to the typical stocks in the S&P 500, which means that RSP may outperform its market cap weighted counterpart, SPY, in the coming weeks. The value seems to be in the smaller companies within the SPX as investors have discounted their valuation to account for likely earnings reductions from the pandemic.

Although Covid-19 is running rampant globally, we could probably see a vaccine within a year and RSP may be a relative beneficiary compared to SPY. Therefore, I would not chase the rally of AMA (too crowded) and invest in beaten down stocks in the S&P 500 through RSP.

Joon Choi is Senior. Portfolio Manager/Research Analyst at Signalert Asset Management. Sign up here for a free three-month subscription to Dr. Marvin Appel’s Systems and Forecasts newsletter, published every other week with hotline access to the most current commentary. No further obligation.

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