As Nvidia soars, stock market's deflated laggards spark concern

By William Watts

Signs of economic softness may be weighing on stocks outside the AI-fueled tech sector rally

America may love a winner, but it's the losers - and there are lots of them - that are starting to attract attention when it comes to the stock market.

"I think at the megacap level, it's really just a momentum story that's been in place this year. I think the bigger story is under the surface," Kevin Gordon, senior investment strategist at Charles Schwab, told MarketWatch in a phone interview.

That momentum story saw Apple Inc. (AAPL), playing catch-up with artificial-intelligence chip maker Nvidia Corp. (NVDA), put on another 9% gain this week. Apple Inc. (AAPL) rallied over 7% after unveiling its "Apple Intelligence" aspirations, leading it to jockey with Microsoft Corp. (MSFT) for the most-valuable company crown.

But outside a handful of megacap winners, the market is struggling. That handful of heavyweight winners account for a growing share of winners in the market-cap weighted S&P 500 index SPX and Nasdaq Composite COMP. The S&P 500 has rallied another 2.9% so far in June, bringing its year-to-date gain to 13.9%.

The equalweight version of the S&P 500, which as the name implies gives the same weighting to each of its components, is down 0.4% in June and has gained just 4.4% year to date. The more cyclically oriented and, importantly, price-weighted Dow Jones Industrial Average DJIA also notably lags behind the cap-weighted indexes, down 0.3% in June and up just 2.4% in the year to date.

Read: The Dow signals 'major yikes' moment as it lags behind the S&P 500 rally

The S&P 500 hit record highs despite less than half of members trading above their 50-day moving average, and the five largest stocks accounting for half of the year-to-date gain, noted Mark Hackett, chief of investment research at Nationwide, in a note. Nvidia alone accounted for 32%. Those five stocks now account for a record 27% of the index's market capitalization, he noted.

Looking at the average maximum drawdown at the individual member level, the S&P 500 has already reached correction territory at -15%, Schwab's Gordon noted, while the small-cap Russell 2000 RUTand Nasdaq are well into bear market territory, at -28% and -37%, respectively.

Indeed, such poor market breadth, or measures of how many stocks are participating in an index's move, explains why CNN's Fear and Greed index now stands in "fear" territory, according to analysts at Bespoke Investment Group.

To be clear, it isn't market concentration itself that is particularly worrying, Gordon said. Market watchers often point out that a handful of stocks often tend to account for outsize gains during rallies. Instead, it's when that handful of stocks are rising and the rest of the market is flailing that concerns begin to rise.

A similar thing happened in 2021, setting up the 2022 bear market, he noted. While that doesn't mean history will repeat, investors need to stay vigilant.

Signs the economy has hit a bit of a "soft patch" help explain the weakness for a broad part of the market, he said. Annualized U.S. gross domestic product growth in the first quarter was revised down to a tepid 1.3% from an initial estimate of 1.6%. While nonfarm payrolls data are running strong, there are signs of a continued post-COVID "normalization" of the labor market. The services sector looks more resilient than manufacturing.

Such softness may explain why cyclical sectors energy and financials led the S&P 500 to the downside this week, down 2% and 2.3%, respectively.

Gordon doesn't look for the bottom to fall out of the economy, but sees the market facing a test.

The market has gone through a relatively aggressive cost-cutting cycle and is now waiting for revenue growth to kick back in. If that doesn't happen as breadth breaks down, the market is then vulnerable to a correction, he said.

-William Watts

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06-15-24 0523ET

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