Fidelity Breaks The Energy Stocks and Moves The S&P 500

One of the reasons stock market analysis is a probabilistic rather than a purely scientific endeavor is that there are so many variables to analyze – there is never a "right" answer, just a probable one.  While one factor might be important during a particular market cycle, a completely different factor will be responsible for market moves during another cycle. 

Right now, one particularly large variable that most market participants aren’t even aware of, could be what’s moving this market higher – Fidelity Investments.  I believe that Fidelity Investments has moved the market dramatically over the past two months by getting out of energy and commodity stocks and into larger-cap staples. 

Fidelity’s footprints are all over the tape.  As of June 30, Fidelity was the number one or number two holder of just about every large and mid cap energy stock. According to Yahoo Finance, Fidelity owned 12% of SII, 8% of SLB, 8% of BHI, 8% of UPL, 7% of HAL, 7% of WFT, 6% of EOG, 5% of BJS, 3% of APA and the list goes on.  Fidelity had become extremely overweight energy and I believe they have been unwinding that trade.  Fidelity is a horrible seller when they decide to get out of a stock because they are so big.  When they unwind, they unwind quickly and without regard for price. 

For instance, Fidelity was the largest holder in UPL and WFT, two stocks that have been sold so aggressively since 2Q earnings (which were both in line with estimates) that the drops were unrelenting and without bounce. 

Since Fidelity doesn’t hold cash in its funds, they need to get this money back to work immediately before quarter end.  So they go on a buying binge of just about everything that is mega-cap and non-energy.  This movement out of energy stocks and into larger cap stocks is very apparent in the market.  The DOW and S&P 500 hitting new highs every day on lower breadth and the number of stocks in these indicies hitting new highs is very narrow.   

You can see from the following charts that the movements of the indexes has been uneven.  The S&P 500 has been moving to new highs while the NASDAQ has been lagging….   

Fidelity has been largely moving into large liquid stocks, causing the to outperform for the first time in several years.  You can see this from the line turning higher in the S&P 100 vs Russell 2000 comparison below…

The money has flowed into hard-to-move, mega-cap, defensive stocks such as Proctor & Gamble (PG), which has exploded higher, on relatively light volume… 

This focus on mega-cap stocks has also caused the advance/decline line to lag and make the market internals appear very weak.  The 10 moving average of the advance decline line has been making higher lows, despite the higher highs being made by the indexes….

The money has rotated out of the Energy sector and into the more defensive Health Care, Utility and Financial sectors.  One of the odd outliers is the strength in Technology stocks.  I believe Fidelity has been moving some of its money into the larger cap Technology stocks such as Microsoft and Cisco which had become too oversold.

The mass exodus out of Energy could explain the odd strength in the market indexes.  As money has flowed into the mega cap stocks, it has propped up the larger cap indexes like the S&P 500 (which is market cap weighted), while leaving the smaller cap indexes such as the Russell 2000 to flounder.  This also explain why the markets haven’t succumb to their typically seasonal tendencies by making a low in September and early October. 

If you read my posts from the past months, you know that I’ve been cautious (and wrong) on the market.  And I’m not saying that Fidelity is right or wrong for moving en mass out of Energy into more defensive sectors.  Given the economic data, it’s actually the strategically correct trade.

It is the odd effect that Fidelity has had on the rest of the market that has made me scratch my head.  The breadth reading on the overall market and stock charts of many individual companies were (and remain) uninspiring during the past two months.  In fact, it wasn’t until I studied the sector rotation and the various holdings of Fidelity, that I began to understand why the overall market was moving higher, despite the poor internal breadth readings.   

Understanding this trend, unfortunately, doesn’t help much making my longer term forecasts.  I would imagine that the overall market could show some weakness in early October as some of the money that has flowed out of Energy into the broader market could now flow back into Energy.  Overall, I would feel much better if the market rally broadened out and if we got some indication the economic downturn won’t turn into something more severe.  I would also feel safer if earnings estimates would begin to reflect the slower economic growth that the leading indicators have been predicting.  I’m afraid that earnings estimates for many stocks are too optimistic and that market leadership is too defensive for a true bull market to take hold. So I’m going to maintain my cautious bias.