My recent post noted that historical patterns among markets can serve as useful heads-up signals for traders. That post examined extreme indicator readings and their implications for future price change in the S&P 500 Index. In this excursion, we'll take a look at a sector relationship: how the behavior of energy-related stocks--the Energy Sector Spyder ETF (XLE)--might be related to future movements of the large cap S&P 500 Index.
Thanks to a falling crude oil market, over the past 20 trading sessions, XLE has been down more than 5%. Going back to 2004 (N = 737 trading days), we've had 211 daily occasions in which XLE has been down more than 1% over a 20-day period. Ten days later, the S&P 500 Index (SPY) has been up by an average of 1.03% (161 up, 50 down). That is much stronger than the average 10-day gain of .05% (288 up, 238 down) for the remainder of the sample. It thus appears that falling energy markets are associated with superior near-term returns, perhaps because traders view such declines as helpful to the economy.
Indeed, that would seem to be the case. When XLE has risen by more than 5% during a 20-day period (N = 242), the next ten days in SPY average a loss of -.31% (113 up, 129 down). That is much weaker than the remainder of the occasions in the sample, which average a 10-day gain of .64% (336 up, 159 down). When energy is on the rise, markets have been performing subnormally in the near term. Knowing these sector relationships helps traders anticipate market movements, but also can help them understand when markets are not living up to their usual performance: useful information in itself.
In my next post, we'll examine yet another example of a historical pattern: this one linking entirely different markets.