The land mines for the markets are becoming more numerous. Seasonal weakness is combining with continuing uncertainty over the impact of the delta variant on consumer behavior, high labor and material costs affecting pricing and delivery of goods, and poor data out of China.  

While the S&P 500 is still about 1% from its highs, those land mines are taking their toll on large sectors of the market.

“For the last several months, most stocks have declined more frequently than they have advanced–evidence of a weakening market condition,” CFRA’s Sam Stovall said in a recent note to clients.

Other strategists have noticed this divergence as well.

“As the equity market reaches new highs, the divergence in the advance-decline line suggests we may be approaching a top,” Guggenheim’s Scott Minerd said in a recent tweet. “In the past, such divergence has indicated the market is vulnerable to a sell-off.”

About 15% of the big-cap S&P 500 are more than 20% below 52-week highs, but much larger swaths of the midcap and small cap universe are down 20% or more — those groups are less tech-focused and more susceptible to an economic slowdown:

Slow motion deterioration
(percentage that are 20% or more below 52-wk. highs)

• S&P 500            15%
• S&P Midcap      30%
• S&P Small Cap  48%

The Covid-related weakness is affecting sectors associated with the reopening, such as industrials and retail.

“This phase of the pandemic poses downside risks to the economic recovery, including to inflation components that are more sensitive to the disruption in services demand,” Blerina Uruci from Barclays wrote in a recent note to clients.

Industrials/Materials
(% off 52-wk. highs)

• American Airlines    26%
• FedEx                         20%
• Dupont                       20%
• PPG                            18%
• Caterpillar                  17%
• Stanley Black & Decker  17%
• Lockheed Martin       14%
• 3M                          12%

Retailers
(% off 52-wk. highs)

• Nordstrom             41%
• Gap                         36%
• Abercrombie         24%
• Kohl’s                      19%
• Ross Stores           16%

The China slowdown — particularly the decline in retail sales due to Covid issues — is dramatically affecting luxury retailers, many of which are based in Europe.

Luxury Retailers
(% off 52-wk. highs)

• Kering                     21%
• Tapestry                 20%
• Richemont             17%
• Movado                  15%
• LVMH                      14%

Supply chain and labor problems are affecting the ability of some homebuilders to fully deliver on orders.

Home builders
(% off 52-wk. highs)

• Pulte                      26%
• KB Home               21%
• DR Horton              17%
• Lennar                    11%

Concerns about controls on drug prices from the Biden administration has also affected Big Pharma in the past couple weeks. 

Big Pharma
(% off 52-wk. highs)

• Eli Lilly                 14%
• Bristol Myers Squibb      11%
• Merck                  11%
• Johnson & Johnson  8%

Most strategists, including Dubravko Lakos-Bujas from JPMorgan, remain bullish, but even Lakos-Bujas admits that it is very difficult to read the economic tea leaves. “Given the unique nature and impact of the pandemic, the current cycle is more difficult to analyze compared to historical cycles,” he said in a recent note to clients. “This cycle is essentially an overlay of two intertwined cycles — a Covid cycle and a regular business cycle (incl. labor, capex, inventory).”

Why do so many analysts and strategists remain bullish? It’s all based on the theory that the delta variant will prove to be a diminishing force and that earnings will not materially decline. “As the delta variant eases, we expect these concerns to fade, leading to a much stronger 4Q21 holiday season (unlike last year’s holiday season disappointment) and a pick-up in cross-border activity from still depressed levels,” Lakos-Bujas said.