Companies in the S&P 500 are moving independently of one another to an extent rarely seen, and that’s good news for stock pickers.
The CBOE S&P 500 Implied Correlation Index, a gauge of lockstep moves in the S&P 500, is close to the lowest it’s been all year, according to data from Bloomberg. The index has dropped 14% so far in 2017 as investors have delineated between the winners and losers of President Donald Trump’s expected policies.
As of Friday, the measure had been lower on just three occasions since the start of January. It fell 4% over the last five trading days, its biggest loss in more than two months.
In theory, the more stocks operate with a mind of their own, the easier it will be for investors to pick ones that provide market-beating returns. On the flip side, a more homogeneous equity market makes it difficult to find standout winners.
It makes sense that this would happen in the early stages of an earnings season, a time when company-specific attributes often win out over broader macro themes that affect large swaths of the market.
However, no discussion of stock picking is complete without a mention of the biggest threat to its livelihood: the rapid growth of passive investment. After all, what good are ripe stock-picking conditions if everyone is piling into exchange-traded funds?
Passive investments already account for 28.5% of assets under management in the US, a share that’s expected to rise to more than 50% by 2024 at the latest, according to a Moody’s forecast.
Jason Trennert, chief investment strategist at Strategas, will have you believe that the decline of the active manager has been highly exaggerated. In a client note on Friday, he argued that the tide will eventually turn once the current business cycle starts to wind down, a development that will expose the risks of index investment.
While Trennert, whose firm provides research, advisory services and financial products to institutions, clearly has a horse in this race, there’s no denying that the ongoing ETF boom has conveniently coincided with low interest rates and the second-longest equity bull market in history. He sees stock pickers maintaining their relevance well into the future.
“There is a tendency to know everything about a stock aside from the one thing that turns out to be important,” he wrote. “How robots will avoid this same pitfall is a mystery to me. After the next recession, one wonders whether more money management firms might not start to think of themselves as active owners of companies, as opposed to passive renters of them.”