Weakness is spreading through US equities, according to Robert Colby, Chief Investment Strategist at Robert W. Colby Asset Management.
While the capitalization-weighted S&P 500 continues to make higher highs (Chart 1), the equally-weighted Value Line Geometric Index (Chart 2) has been declining and diverging bearishly compared to the S&P since early June. According to Colby, this is a clear sign of failing price momentum and diminished bullish power for the broader market. The largest and most popular stocks continue to dominate the stock market, while the typical stock is relatively unwanted.
Colby says this technical view of decreasing breadth is underpinned by hints that the Fed may announce some tapering of monetary policy soon. Given the financial markets have been dependent on easy monetary policy, then tapering would raise risks for financial markets. He says stocks are priced for an extremely optimistic future; they are overbought and overvalued relative to traditional measures such as sales, earnings, dividend yields and book value.