Excerpt from the Hussman Funds' Weekly Market Comment (1/3/11):
One of the striking features of the market here is the extent to which large-cap, high-quality has underperformed speculative sectors of the market, creating what we view as a multi-year "setup" in favor of high quality issues.
A few weeks ago, I noted the wide dispersion between staples and cyclicals, which is evident within the S&P 500 itself. Extremes in the relative valuation of these sectors have typically been followed by strong subsequent reversion in the opposite direction favoring the depressed sector. Moreover, even if we take the whole S&P 500 as relatively "high quality," we can observe yet higher levels of speculation in small-cap indices such as the Russell 2000, and high-beta indices such as the Nasdaq. The ratio of the S&P 500 to these more speculative indices has fallen to multi-year lows.
It's important for investors to realize that historically, such instances have typically been followed by poor relative performance in speculative stocks over the next several years, and corresponding outperformance of more stable issues.
In the chart below, the blue line is the ratio of the S&P 500 to the Nasdaq composite (left scale), while the red line is the annual return of the Nasdaq composite in excess of the S&P 500 over the following 4-year period.