Please CLICK HERE to download the November sector allocation report in PDF format.
This past October, the stock market was significantly influenced by macroeconomic factors, particularly the rise in interest rates. At its worst, the S&P 500 declined nearly 6 percentage points from its intra-month high to the low. However, with a robust rebound in stocks during the final days of the month, the decline in October was narrowed to 2.2%. In terms of sectors, Utilities reversed its previous months’ downturn and stood out as the only sector to register growth in October. In contrast, Energy was the biggest laggard, with a decline of 6.1% for the month.
As we observe incremental signs of selling trend exhaustion and a sharp market rebound, we continue to maintain a constructive outlook towards the year-end. Of course, in line with the change of market dynamics, adjustments have been made in our sector allocation for November. However, keep in mind, our allocation goal is always with a long-term perspective. As a result, the adjustments we make in our monthly updates are generally smaller.
Firstly, let’s discuss each sector ETF allocation in detail.
Energy – Overweight (Lee) & Neutral (Newton)
Energy has the most significant change in our sector allocation this month. Due to its sharp decline in October, combined with Mark Newton’s downgrade from Overweight to Neutral, we have moderately reduced the weight of Energy. Compared to the previous month, the weight of Energy has been decreased from 6.2% to 5.3%, a reduction of 0.8%. Although the weight has been reduced, relative to the benchmark index, we are still overweight in the Energy sector. As for Mark’s downgrade, it is largely based on short-term perspective. Mark still believes that “energy is an intermediate-term bullish sector.” For more details, please see Mark’s commentary below.
Technology – Overweight (Lee) & Overweight (Newton)
Technology witnessed the largest weight increase this month, rising by ~1.0%, from 25.9% to 26.8%. Compared to other sectors within S&P 500, Technology is the most overweight sector by us. The increase in weight for Technology can be attributed to two main factors: 1) Technology’s relatively stronger performance in October compared to other sectors, and 2) Due to Mark’s downgrade of Energy, the extra weight that was previously assigned due to Energy being double-overweight (OW by both Thomas Lee and Mark Newton) has been reallocated to other double-overweight sectors. To some extent, Technology possesses the best visibility currently.
Industrials – Overweight (Lee) & Overweight (Newton)
Industrials declined by -3.0% in October, and were down -0.8% relative to the S&P 500. However, for reasons similar to Technology, the downgrade of Energy benefited Industrials by giving it more weight. Our latest sector allocation result recommends members assign an 8.3% portfolio weighting to Industrials, a modest rise of 0.4% compared to the previous month. Compared to the benchmark S&P 500 index, our model suggests an overweight positioning by an additional 1.2% in Industrials. Although today’s October ISM Manufacturing PMI came in below expectations, if the PMI truly enters an upward trend, then the industrials sector stands to benefit the most.
Discretionary – Overweight (Lee) & Underweight (Newton)
Discretionary is currently Overweighted by Thomas Lee but Underweighted by Mark Newton. In October, this sector saw a decline of 4.5%, underperforming the S&P 500 by 2.3%. Based on the most recent FS Insight sector allocation model result, we recommend our members to allocate 9.6% of their portfolio to Consumer Discretionary, which is a slight decrease of 0.1% from the previous month. When compared to the S&P 500 benchmark, the FS Insight recommendation suggests an incremental 0.3% allocation towards Consumer Discretionary.
Communication Services – Overweight (Lee) & Underweight (Newton)
Communication Services is currently Overweighted by Thomas Lee but Underweighted by Mark Newton. In October, the Communication Services sector experienced a 2.0% decline, but was up 0.2% relative to S&P 500 index. Based on the latest FS Insight sector allocation model result, we recommend our members to allocate 9.3% towards Communication Services (-0.2% from last month) and an additional 1.7% allocation compared to the S&P 500 benchmark index.
Basic Materials – Neutral (Lee) & Neutral (Newton)
Basic Materials sector remains Neutral by both Thomas Lee and Mark Neutral, unchanged from last month. As a result, our recommended allocation remains at 2.0%. This also aligns with a market weight when compared to the benchmark index.
Financials – Overweight (Lee) & Neutral (Newton)
In October, the Financials sector experienced a 2.6% decline, underperforming the S&P 500 by 0.4%. Our Head of Technical Strategy, Mark Newton, has upgraded Financials from Underweight to Neutral. According to Mark, the Financials sector has recently shown strength in relative terms and has shown positive development based on DeMark indicators. Mark believes that the Financials sector is possible to outperform in the 4Q, but not robustly enough to warrant an “Overweight” recommendation. Compared to last month, we slightly decreased the recommended weight of Financials sector from 10.8% to 10.7%.
Real Estate – Underweight (Lee) & Underweight (Newton)
Real Estate has been underweighted by both Thomas Lee and Mark Newton. And due to its weak tactical momentum, same as last month, we still recommend our members to avoid Real Estate sector (0% allocation).
Healthcare – Overweight (Lee) & Neutral (Newton)
In October, the Health Care sector declined by -3.3%, underperforming the S&P 500 by -1.1%. Currently, 18.8% of the sector’s members are trading above their 20-day moving average (DMA), while 23.8% are above their 200 DMA. The latest FS Insight sector allocation model result recommends a portfolio allocation of 11.4% to Health Care, a slight decrease of -0.2% from the previous month.
Consumer Staples – Underweight (Lee) & Underweight (Newton)
The Consumer Staples sector was down -1.4% in October, and up 0.8% relative to the S&P 500. Our Head of Technical Strategy, Mark Newton, downgraded the Consumer Staples from Neutral to Underweight. According to Mark, the dropping back to multi-quarter lows this year has turned Staples bearish from a technical perspective, and makes it likely a technical underperformer into year-end. More details of Mark’s comments are below.
Utilities – Underweight (Lee) & Underweight (Newton)
Despite being the best performer in October, Utilities has been Underweighted by both Thomas Lee and Mark Newton. And similar to Real Estate sector, we recommend our members to avoid Utilities sector (0% allocation, same as last month).
Mark Newton’s commentary:
Financials
Financials have improved to neutral from bearish following a rally to multi-month highs in relative terms when eyeing Equal-weighted Financials vs. Equal-weighted SPX. Their returns are the best of any of the 11 Equal-weighted SPX sectors at +1.82% for RSPF through 10/31 while being the third best of 11 out of the last 1 month period, down just -2.07%, vs. SPX being lower by -2.20%. DeMark counter-trend signals have confirmed monthly TD Sequential and TD Combo “13 Exhaustion Countdown signals (“Buys”) which happened at the end of September, and provided fuel for outperformance despite some of the dismal price action in many of the Regional Banks. Overall, this sector should likely outperform in 4Q, but is merely Neutral overall, not bullish for me technically, given the long-term Sideways consolidation pattern of Financials relative to SPX.
Energy
Energy’s Overweight is being reduced to Neutral tactically for the next month given evidence of Crude beginning to consolidate its strong gains in the last month. Energy vs. SPX in relative terms dropped to multi-week lows, and technical patterns on WTI Crude along with many Energy ETF”s shows an above-average likelihood of weakness in November, which along with October, represents one of Crude oil’s weakest seasonal months of the year. Cycle composite studies show Crude likely weakening into late November before a rebound gets underway, and technically speaking, WTI Crude looks to decline to the mid-$70’s which should pressure Energy. Overall, Energy is an intermediate-term bullish sector to/for me, but merely requires consolidation after its rally over the last few months. Mean Reversion could take Energy lower but ultimately should bring about an attractive opportunity for December into 2024 on weakness.
Consumer Staples
Consumer Staples looks quite weak technically, and following the drop in relative charts of Equal-weighted Consumer Staples (RHS) vs. Equal-weighted S&P 500 (RSP 0.44% ) to nearly the lowest levels in two years, looks likely to show additional underperformance in the months to come. Following an above-average bounce in Staples in the early part of 2022 during last year’s bear market, this sector attempted to rebound after relative charts had broken down to the lowest levels in more than a decade. This prior bounce failed to recoup levels that would turn this bullish but was thought to be Neutral technically given the strength from 2021. However, this changed rapidly following its drop back to multi-quarter lows this year, and has turned the sector bearish, technically speaking. Thus,, while near-term outperformance might materialize during a time of risk/off trading due to geopolitical worries, Staples does not look to continue this bounce into year-end and looks like a technical Underperformer.
November Asset Allocation (Slide 2)
Sector Ratings (Slide 5)
Next, let’s discuss our tactical ETF recommendations.
From October 2 to the month-end, our 5 tactical ETF recommendation declined by an average of 1.1%, and up by 1.1% relative to S&P 500.
The decline in Energy stocks was the primary cause for the underperformance. In our November update, we have chosen to keep the other four ETFs (IAK 0.38% , COWZ -0.55% , MLPA 0.14% , IHAK 0.55% ) but will replace OIH 0.40% with PAVE 0.60% . More comment on PAVE 0.60% from our Head of Technical Strategy, Mark Newton, could be found below.
Mark’s commentary on PAVE 0.60%
Despite being lower by nearly 8% over the last 30 days, PAVE has reached an attractive area of intermediate-term trendline support. Thus its short-term oversold conditions have not occurred as a result of any serious trend damage, and should represent an attractive risk/reward as part of a very attractive sector for the weeks/months to come. I expect a meaningful bounce in PAVE during December-January of this year which should help to recover much of its damage over the last few months. Overall, this looks like an appealing group to own following weakness given no longer-term technical weakness.
We hope you will find the Sector Allocation Strategy useful in your investment journey. The strategy will be updated on a monthly basis, and we look forward to hearing your thoughts on how we can make it better. If you have any questions about this, or any other aspect of our work, please do not hesitate to e-mail us at inquiry@fsinsight.com.
