Over the last couple of days, I’ve had and overheard a few conversations from traders, analysts, and portfolio managers at a few hedge funds and long-only funds focused on public equities. There isn’t much disagreement on what’s causing the dip (but there is some!), and just about everyone is looking at this dip with the same emotion: relief.
That may seem odd, and it is definitely counter both to the narrative that the financial press puts out during market downturns and the one that is starting to percolate in the popular press (“Nasdaq tanks 2.8% in worst day since March” says CNBC, “Rate-Fueled Rout” drives the trend, says Bloomberg, and “global tumult” is the problem according to the Financial Times). But a lot of traders seem to agree that this is a needed pause in the bull run, and that this is an opportunity both to buy and to rotate.
The concept of sector rotation is an important one, and it’s central to how many funds and larger institutional investors manage risk. To stick with the S&P 500, we can see the value of rotation by looking at sector ETFs. While the S&P 500 is up nearly 18% YTD, energy (XLE) is up 40%, financials (XLF) 29%, and real estate 23%. Obviously, those sectors, which quite simply collapsed in 2020 and had anemic recoveries from the pandemic low, were well positioned to recover in 2021; now that they have done so, there is an opportunity to reallocate from an unusually heavy weight in those sectors towards tech (XLK), communication services (XLC), utilities (XLU), and consumer staples (XLB), which have been struggling to keep up in 2021 after doing unusually well in the pandemic recovery last year.
Without lockdowns, massive runaway inflation due to lower production capacity, an aggressive rise in unemployment, or evidence of a bank run, there’s little reason to believe we’re at the start of a massive market downturn–and until then, this dip will likely be talked about as an opportunity to rotate as it is now.
Of course, the conditions on the ground could change quickly, causing those analysts and traders to change their tune. And, equally worth considering is the possibility that those people are just plain wrong.