In the doldrums of last week’s holiday trading, the market began the new year with a bearish test of some major technical support levels. Fortunately, the bulls responded with strength.

As you’ll see in Keith’s review below, the technical setup of the market, combined with last week’s conversation regarding the nature of “January,” seem to suggest that the upcoming week could be a big one.

The upcoming week will have plenty of potential catalysts to excite or worry investors, such as:

• It will be a busy week for employment news
• There will be a release of the Fed's meeting minutes
• A 30-year bond auction is to occur
• It will be the first “back to work” week of the year
• A potential confirmation of a bullish January trend trade can be seen in many indexes
• There will be one less trading day due to the Day of Mourning holiday

There Are Two or More Stock Markets; Are You in the Right One?

I’m referring to the market themes that you’ve undoubtedly heard about, but there may be more to this story than you’ve focused on.

The “headlines” are that the Magnificent 7 stocks are driving the market's performance. This is certainly true. The chart below shows the ETF of the Magnificent 7 stocks (MAGS) vs. the most widely followed market indexes.

More important than just the price action is the justification for the outperformance. As we pointed out in the chart below, and with more detail in our Dec. 22 article, the earning growth has been concentrated in these 7 stocks.

As you can also see by the chart above, it is expected that the other 493 stocks will have a better earnings performance in 2025, while the MAGS’ earnings growth is expected to slow modestly.

Unless you’re trading the SPY, QQQ, or MAGS (and even if you are), the broadening out of earnings growth is most likely going to be one of the market’s most important hurdles for a healthy continuation of the bull market in 2025.

So, while most market commentators will be focused on the “market breadth,” as measured by all the normal technical indicators we provide at the end of the text, investors would be wise to also be focused on the breadth of earnings growth. We'll continue to follow it here.

The technical breadth of the market will most likely be the leading indicator of a strong market, but improving earnings breadth will enable it to “stick.”

Are You Diversified?

Most investors would consider themselves diversified if they are in the SPY or QQQ, and that belief has served them well for a long time. Over time, however, the extent to which the SPY is diversified has changed. As you can see from the chart below, the percentage of SPY that is represented by the top 7 stocks has grown to 34%.

Since the price change of the SPY is based on the stocks’ capitalization weighting, it’s possible for these 7 stocks to account for more than half of the gains or losses in the index. That means SPY investors are not as “diversified over 500 stocks” as one may assume.

In the last two years, this has been good for investors. The performance of the SPY and QQQ was impressive last year, but if you measure the performance of the S&P 500 and Nasdaq 100 on and equal-weighted basis with ETFs like RSP and QQEW, respectively, the performance was half and almost a third as good. See the chart below.

As you can see from the chart below which illustrates the overperformance or underperformance of the RSP vs. the SPY, since 2004, 11 of the last 21 years have seen the RSP outperform the SPY. However, the last two years have been very lopsided.

This Underperformance by the Equal-Weighted Index Isn’t a Reason to Get Scared, But…

This is a reason to consider being a more tactical investor, being clear about how diversified you really are, and more. “Tactical” can mean different things to different people, and it doesn’t have mean sacrificing performance.

Consider this question. Over the last three years, including the bear market of 2022, would you have been better off to have owned XLE, which had an outstanding 2022 (the bear market), or to have owned the bull market’s leading sectors as represented by XLK, XLC, and XLY?

The answer may surprise you.

A Demonstration of Tactical Risk Management

The chart below shows the annual performance of the S&P 500's sectors, as well as a few indexes and sector segments, over the last three years.

I’ve highlighted XLE in yellow and XLC in blue. As you can see, XLE was the best performer in 2022, while XLC was the worst. Then, in 2023 and 2024, their positions switched.

(Click on image to enlarge)

Now, take a look at a chart of percentage performance from the beginning of 2022 below. As you’ll see, despite two extraordinary bull market years for XLC, it was not able to meet the three-year returns of XLE. In fact, XLE beat it by 2x.

The purpose of this exercise is not to advocate for energy vs. tech. This is an example of how important it is to keep drawdowns small.

(Click on image to enlarge)

The chart above also notes the performance of XLK. It had a much lower 2022 drawdown, and it has been the second best performer over the three-year period.

How To Be Tactical

First and foremost, we believe being tactical means managing exposure to potential drawdowns. However, being tactical isn’t just playing defense.

Tactically Cap-Weighted

You saw that the in last two years of the bull market, if you’ve not been trading the indexes (SPY and QQQ), keeping up with their performance by trading the other 493 stocks is a tough job. You’re literally trying to outperform a group of stocks with another group of stocks that are not performing as well.

The markets, as defined by the most widely followed benchmarks, are capitalization-weighted, and the process for adding and subtracting members to these benchmarks is based on market capitalization. As a result, there will always be “two markets” – capitalization-weighted benchmarks, and the rest of the market.

This is why we consider our systems that focus on trading the SPY and the QQQ to be “core” strategies. There is an edge in focusing on the cap-weighted market factor. When this factor is outperforming, we want to be there. Of course, all of our systems focus on limiting drawdowns in their respective investment focus.

Tactically Over Weight Sectors

The reason sector rotation has always been a focus of active professional managers was illustrated above with XLE. Its three-year outperformance was a result of strong momentum in a bear market. As a result, it had two edges in its favor – inverse correlation in a bear market, and relative momentum.

These are both core trading edges in a good sector rotation strategy. They are also why our sector models outperformed the market in both 2022 and 2023. The model was in energy in 2022, and in technology in 2023 and 2024.

Being Tactical in 2025

As we move into 2025, the conversations of "market breadth" and the “Magnificent 7 problem” are likely to get louder. Rather than look at these issues as problems, consider them as different markets, a variety of investment opportunities.

Who Cares About Year-To-Date Performance?

The short answer is probably, everybody. However, not many people actually use it.

Last week’s text discussed the concept of the January trend trade and calendar ranges. One of the reasons the January calendar range is so powerful is because market sentiment is focused on year-to-date performance.

If you’re a long-term investor, be tactical when the year-to-date is red. If you’re a more active discretionary trader, you can use the year-to-date condition to identify the new opportunities to enter trends that could have big moves. Notice in the chart above that the only sector to go up in 2022 was never down on a year-to-date basis. This isn’t unusual.

Last week, we focused on the pattern of markets that trade over the first day of their month. It’s the first step of a quick, confirmed bull move for any month, and it’s even more powerful in January.

When speaking to the broad public audience, we tend to talk more about the big a January range because it’s more appropriate for more traders and investors, but since you’re here, the first January range seems to be off to a good start in several indexes – as seen with the SPY, QQQ, and even QQEW. Watch the indexes and sectors, and of course, your favorite stocks performance relative to the year-to-date low.

Keith’s review refers to the big range, but it highlights several reasons the initial move could get 2025 off to a good start. The most important "market breadth" number to me over the next 10 days is the year-to-date number on the sectors and indexes. This simple perspective will tell you what the market is thinking for 2025. Now, I'll hand things over to Keith.

Every week, we review the big picture of the market's technical condition as seen through the lens of our data charts. The bullets below provide a quick summary organized by conditions we see as being risk-on, risk-off, or neutral.

The market recovery on Friday, led by technology stocks and improving market internals, will prove to be a good sign if it persists. The upcoming calendar ranges will be key for picking up the next move in the markets.

Risk-On

• The McClellan Oscillator turned positive by Friday's close for both the NYSE and the QQQ, while the cumulative advance-decline line also found support.
• The NYSE new high, new low ratio flipped positive with a buy signal this week on a short-term basis, and this was even stronger on the Nasdaq.
• Looking at the number of stocks above key moving averages, things are starting to turn around, with all timeframes having a positive slope.
• Growth continues to outperform value, with hugely divergent momentum patterns confirming growth’s leadership.
• Bitcoin held critical support and bounced off of those levels.
• Copper held the lower end of its trading range. If it can hold recent lows, this could be a positive development for the economy.
• Semiconductors rallied sharply and seemed to be showing some leadership over the S&P 500.

Neutral

• Despite the strong rally on Friday, the QQQ remained in a bullish phase. It remains to be seen if the other indexes can rally enough to reclaim their bullish phases.
• Volume reads stabilized at a neutral reading with roughly equal amounts of accumulation vs. distribution days seen across the major indexes.
• Soft commodities regained a bull phase, and this is potentially inflationary.
• There was a mixed read on sentiment readings.
• Gold tested its 50-day moving average but closed under it, with momentum waning and being stuck in a trading range.
• Energy (USO, oil and gas exploration, etc.) led the market higher by a wide margin.
• With the strength in utilities and gold on a relative basis, the risk gauges backed off to a weak neutral reading.
• Interest rates continue to sit at elevated levels, trading at the bottom of recent levels. The yield curve continues to steepen.

Risk-Off

• Over the last five trading days, 10 of the 14 sectors were down, led by technology and consumer discretionary sectors, while utilities were strong on a relative basis, indicating more of a risk-off picture.
• Foreign equities continue to underperform U.S. equities, and they appear to be in negative phases.

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