'Derisk portfolios now': Expert warns of market volatility ahead

There is an important market indicator that is back near its December 2018 level, the month when the S&P 500 (^GSPC) was on the brink of entering bear market territory, falling 19.8% from its September 2018 peak.

“Recent U.S. equity market volatility has shoved sector correlations back towards the highs of the late 2018 selloff,” wrote Nick Colas, co-founder of DataTrek Research in a note to clients.

According to Colas’s analysis, the average S&P 500 sector price correlation to the broader S&P 500 index stands at 0.79 over the past month. This is the largest reading since the 0.88 level in mid-January. That was when the S&P 500 stood at roughly 2,610, still reeling from the December selloff.

The current 0.79 level also trounced the 0.76 reading in mid-November 2018 and the 0.78 level in mid-December.

The stock market is sending a warning sign.
The stock market is sending a warning sign.

“Tighter correlations mean less sector-driven diversification to dampen volatility,” Colas wrote. “Whenever correlations rise, the CBOE VIX (^VIX) tends to rise or remain elevated.”


Over the last month, the bond proxy sectors, including utilities and real estate, were the least correlated to the S&P 500 index, at 0.53 and 0.61, respectively.

But the market’s beloved technology sector, was highly correlated to the index at 0.94.

“As for tech, [the high correlation] says that it is the market leadership group, so it can drive overall market sentiment,” Colas told Yahoo Finance.

The takeaway for investors, according to Colas is to “derisk portfolios now.”

Sectors with lower-than-average correlations are good parking lots for equity capital,” he wrote. “Real Estate and utilities look best on this measure, with the edge going to the former.”

The broader stock market surged Tuesday morning following an unexpected announcement that some of the planned Sept. 1 tariffs against imports from China would be delayed until December.

Mark your calendar.
Mark your calendar.

Scott Gamm is a reporter at Yahoo Finance. Follow him on Twitter @ScottGamm.

More from Scott:

Follow Yahoo Finance on Twitter, Facebook, Instagram, Flipboard, LinkedIn, and reddit.