Do Any Sector ETFs Reliably Lead or Lag the Market?
Posted in Economic Indicators
December 13, 2011
Do any of the major U.S. stock market sectors systematically lead or lag the overall market, perhaps because of some underlying business/economic cycle? To investigate, we examine the behaviors of the nine sectors defined by the Select Sector Standard & Poor’s Depository Receipts (SPDR), all of which have trading data back to December 1998:
Materials Select Sector SPDR (XLB)
Energy Select Sector SPDR (XLE)
Financial Select Sector SPDR (XLF)
Industrial Select Sector SPDR (XLI)
Technology Select Sector SPDR (XLK)
Consumer Staples Select Sector SPDR (XLP)
Utilities Select Sector SPDR (XLU)
Health Care Select Sector SPDR (XLV)
Consumer Discretionary Select SPDR (XLY)
Using monthly adjusted closing prices for these exchange traded funds (ETF) and for the S&P 500 index mimicking SPY (to represent the overall U.S. stock market) over the period December 1998 through November 2011 (156 months), we find that:
The following chart shows the correlations of coincident monthly returns for each of the nine sector ETFs with the monthly returns of SPY over the available sample period, displayed in order of decreasing correlation. Utilities, consumer staples and energy have the lowest coincident correlations and are therefore the best candidates for market leaders or laggers. Utilities are arguably somewhat bond-like, and energy is somewhat commodity-like.
To test for lead-lag relationships, we calculate correlations for the monthly returns of each ETF offset by -12 months (sectors lag the market) to +12 months (sectors lead the market) with respect to the monthly returns of SPY. If there is a systematic leading or lagging relationship between a sector ETF and SPY of a year or less, it should emerge as a notably positive or negative correlation over this range of offsets.
The following chart shows the offset correlations for the utilities, consumer staples and energy sector ETFs (the three sector ETFs with the lowest coincident correlations with SPY). The coincident correlations are clearly the strongest, but there is a hint that utilities have some tendency to lag the overall market by a month. Correlations for other sector-market lead-lag relationships appear to be noise.
The next chart shows the offset correlations for the materials, financial and health care sector ETFs. The coincident correlations dominate, and correlations for other sector-market lead-lag relationships appear to be noise.
The final chart shows the offset correlations for the consumer discretionary, industrial and technology sector ETFs (the three sector ETFs with the highest coincident correlations with SPY). The coincident correlations again dominate, and correlations for other sector-market lead-lag relationships appear to be noise.
In summary, there is little evidence that any equity sector ETFs reliably lead or lag the overall U.S. stock market over the past 13 years. Utilities may slightly lag the broad market.
Note that the sample is extremely small in terms of the number of underlying business/economic cycles and that offsetting monthly returns modestly reduces sample size.
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