Breakout in regional banks is good news, says Renaissance Macro's Jeff deGraaf

Key Concepts

• Regional Banks & Small Caps: Correlation and significance for overall market health.
• Market Breadth: The degree to which gains are widespread across different stocks, not concentrated in a few large companies (Mag 7).
• Relative Performance: Comparing the performance of different asset classes or sectors against each other.
• Oversold/Tactical Bounce: A temporary recovery in price after a significant decline, not necessarily a trend reversal.
• Dollar-Cost Selling: A strategy of selling a fixed amount of an asset at regular intervals to realize gains and mitigate risk.
• Parabolic Move: A rapid and unsustainable increase in price, often indicative of a bubble.
• Alpha: A measure of investment performance on a risk-adjusted basis.

Regional Bank & Small Cap Breakouts and Market Health

Jeff DeGraff discusses the recent breakouts in regional banks and small-cap stocks as positive signals for the broader market. He explains that regional banks are crucial to small-cap companies, as they rely on local banking relationships. A breakout in these banks suggests a healthier economic environment, potentially indicating a more stable yield curve and better credit quality in loan books, particularly regarding auto loans. He notes that small caps are currently outperforming the Russell 1000 on a trend basis, evidenced by the 50-day moving average exceeding the 200-day moving average. This outperformance, alongside a similar trend in the MDX (a regional bank ETF), signals improved market breadth. DeGraff points out the previous complaints about market narrowness, driven by the “Magnificent 7” (Mag 7) stocks, are now being addressed as these stocks experienced their first oversold period earlier in the week.

Mega-Cap & Sector Rotation: Semiconductors vs. Software

DeGraff anticipates a tactical bounce in the recently struggling mega-cap stocks, but doesn’t believe this signifies a long-term trend reversal. He highlights a prolonged period of underperformance for these stocks. Specifically, he expresses discomfort with the charts of software companies, noting they are oversold but have concerning tops in place. In contrast, semiconductors appear stronger and are not exhibiting the same negative patterns. He views this transition as a healthy shift in market leadership, rather than a cause for distress. He clarifies that while software may experience a 10% reversion, it doesn’t fundamentally alter the bearish chart patterns.

Gold’s Ascent and Potential Correction

The discussion turns to the significant rise in gold prices, approaching $5000. DeGraff cautions against attempting to predict a top, referencing the history of failed attempts to time the market. However, he asserts that the alpha generated by gold over the past three years now matches levels seen in 1979-1980, placing it firmly in “bubble territory.” He recommends a “dollar-cost selling” strategy for clients – incrementally selling portions of their gold holdings to lock in profits. He estimates a 30-50% correction in gold prices is probable within the next six months, emphasizing a systematic approach to managing risk rather than trying to pinpoint the exact peak.

Macro Environment & Gold’s Sustainability

DeGraff acknowledges an underlying trend supporting gold’s value, but differentiates this from the recent, unsustainable parabolic move. He explains that parabolic moves create “air pockets” and attract marginal buyers, ultimately leading to a lack of sustained demand. He clarifies that his concern isn’t about the long-term direction of gold, but rather the short-term unsustainability of the current price trajectory, given the rapid ascent. He believes the erratic nature of both the macro environment and policymaking will continue to support bids for gold, but the current rate of increase is unlikely to be maintained.

Notable Quote:

“There’s a graveyard at one end of Wall Street and a river at the other. And that’s from, you know, full of people that tried to call a top right. So I’m not going to do that.” – Jeff DeGraff, regarding predicting the peak of gold’s price.

Technical Terms:

• Yield Curve: A line that plots the interest rates (yields) of bonds having equal credit quality but differing maturity dates.
• Small Cap: Companies with a relatively small market capitalization.
• Mag 7: Refers to the seven largest US technology companies (Apple, Microsoft, Alphabet, Amazon, Nvidia, Tesla, and Meta).
• MDX: An ETF (Exchange Traded Fund) that tracks regional banks.
• Moving Average: A calculation to analyze data points by creating a series of averages of different subsets of the data. (50-day and 200-day are common periods used).
• Alpha: A measure of performance on a risk-adjusted basis.
• Parabolic Move: A rapid and unsustainable increase in price.

Logical Connections:

The conversation flows logically from a discussion of broad market signals (regional banks and small caps) to sector-specific analysis (mega-caps, semiconductors, and software) and finally to a specific commodity (gold). DeGraff consistently links these observations to the underlying health of the market and potential risks, emphasizing the importance of understanding relative performance and unsustainable trends.

Data & Statistics:

• Small caps are outperforming the Russell 1000 on a trend basis (50-day moving average exceeding the 200-day moving average).
• Gold’s recent alpha generation matches levels seen in 1979-1980.
• Potential 30-50% correction in gold prices within the next six months.

Synthesis/Conclusion:

Jeff DeGraff presents a cautiously optimistic outlook. While acknowledging potential short-term volatility, he views the broadening of market participation (regional banks and small caps) and the relative underperformance of mega-cap tech as positive developments. He urges caution regarding gold, advocating for a systematic profit-taking strategy due to its unsustainable parabolic rise. His overall message emphasizes the importance of understanding market trends, recognizing unsustainable moves, and managing risk through diversification and strategic selling.