International | Jul 20 2018
By Kathleen Brooks, Research Director, Capital Index
The S&P 500 may have made a fresh 4-month high this week, but we have seen more tentative moves from investors – one day up, one day down. The daily price moves remain small, which is why the Vix remains at a low level. The index is hovering around the 2,800 level, the question is, where will this index go next?
The chart below shows the S&P 500 and its main sectorial components: the consumer discretionary, industrial, technology and financial sectors. This chart has been normalised to show how the sectors move together. As you can see, by far and away the largest contributor to S&P 500 gains has been the technology sector, followed by finance, with consumer discretionary and the industrial sectors actually under-performing the overall S&P 500 for most of the last 12 months.
This is significant, when the sectorial leaders narrow to this extent it is considered a symptom of a late-cycle rally. Thus, while the S&P 500 could continue to move higher, it may be the last hurrah. But just how high could it go?
We believe that the S&P 500’s future is dependent on the technology sector, in particular, and to a lesser extent financials, and the medium-term outlooks for these two sectors will a key driver of where the S&P 500 goes next.
In our view, the technology sector still looks strong, even with the Netflix earnings miss from earlier this week. Apple and Amazon still look on track to be the first trillion dollar companies, and Amazon’s share price hit another record high this week after reports of a strong Prime Day.
Regarding financials, the major banks have already reported Q2 numbers and it has been a triumphant earnings season for the likes of JP Morgan, Morgan Stanley, Citi and BOA. The top 5 Wall Street banks made a combined $5bn last quarter, which could boost sentiment towards these stocks. The interesting thing about the big banks’ earnings last quarter is that they were broad-based with investment banking, trading, asset management and wealth management all posting healthy profit levels. Added to that, a favourable environment of low taxes, reduced levels of regulation and higher interest rates may also mean that financials have further to run on the upside.
Overall, if technology and banking stocks are driving the S&P 500, the outlook remains bright for the US index. While investors may be pausing for breath around the 2,800 mark, there is the scope for potential further upside pressure to materialise, especially if the Vix (volatility index) remains stable. Thus, 2,900 and potentially the 3,000 level cannot be ruled out at this stage.
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