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Sectors Rotation Could be Nearing an End

David Becker
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While small cap stocks were on the defensive during the past couple of months, large cap value stocks have surged driving the Dow Industrials and the S&P 500 index to new all-time highs. On Monday, the Russell seemed to regain its mojo, and surged higher notching up a greater than 2% gain. Small cap stocks are generally the leaders as markets rally, and regional banks seem to be the catalyst for the current rebound.

The Russell 2000 hitting the top of the resistance zone and has been firming the last few weeks. The IWM ETF rebounded back above 110 each time and is currently challenging the early May high. A breakout here would be the first sign that buying pressure is increasing and we could then see a resumption of the bigger uptrend.

According to the iShares website, financial services make up approximately 25% of the Russell 2000 which is the largest sector in the small cap index. This leaves the remaining 75% to be divided up among the other eight sectors. Chartists looking for clues on the Russell 2000 should turn to financial services first. The big banks are not part of the Russell 2000 so the performance of the market-cap weighted Finance SPDR is not important. More likely, regional banks and other smaller finance-related companies are the driving forces.

The small cap region bank ETF (KRE) is firming in the 38 area last week and breaking above the wedge trend line. Even though the decline from late March to early May was deep, KRE has so far held above the early February low. A higher low is required to keep the long-term uptrend alive. The trend line break is the first positive. The early May high marks next resistance just above 39 and a move above this level would complete the wedge reversal.

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