The playbook for a narrow market
When five names carry the index, the index is a misleading signal. Here is how to read breadth, and what to do when it diverges from price.
Index strength built on a handful of mega-caps is not the same as a healthy market. It can persist for a long time, which is why the naive contrarian version of this argument loses money. But it changes what a sensible portfolio looks like: you own the leaders, and you own protection against the index-level illusion.
Three breadth measures worth tracking
- Percentage of constituents above their 200-day average. Below 50% while the index makes highs is a warning.
- Equal-weight versus cap-weight relative performance. A falling equal-weight ratio is concentration, quantified.
- New highs minus new lows on a 20-day smoothing. Sharp divergence from price is the earliest tell.
None of these are timing tools. They are sizing tools. Narrow breadth argues for owning fewer, larger positions in the names that are working, with explicit stop levels, rather than a broad basket of laggards hoping for rotation.
In a narrow market you do not buy the laggard because it is cheap. You buy the leader because it is working, and you size it so being wrong is survivable.
The rotation, when it comes, is usually violent and fast. It is better to miss the first week of a broadening than to spend six months in names that go nowhere while the leaders compound.
Disclosure
This article is analysis and education, not investment advice, and contains no recommendation to transact. The desk holds no positions in the instruments discussed. Figures referenced are generated from a sample dataset in this build. Read the methodology.