Elevated Sector Correlations Signal Lingering Market Jitters Despite Record Highs
U.S. stocks appear poised to notch another record high by Friday, but under the surface, signs of investor unease remain.
Nicholas Colas, co-founder of DataTrek Research, points to unusually high correlations between stock sectors as a signal that traders are still on edge. Colas uses these intra-market correlations — which measure how closely sector returns move with the broader market — as a barometer of sentiment.
Typically, each sector in the S&P 500 behaves somewhat independently. But in times of uncertainty, their movements tend to sync up more closely. “Even though sectors have distinct drivers, they’re all ultimately financial assets tied to future cash flows and economic confidence,” Colas wrote in a note Thursday.
To quantify this, Colas analyzed the 30-day trailing correlations of five major sectors — consumer discretionary, financials, health care, industrials, and technology — against the S&P 500. He then averaged those figures to create a sector correlation index.
That index currently sits at 0.86, well above the long-term average of 0.81. According to Colas, this elevated reading suggests investors are still reacting to lingering macro uncertainties.
Three key takeaways:
- A lingering shock effect: The sharp spike in correlations to 0.95 during the early April tariff scare has had a lasting impact, pushing average correlations higher.
- Lack of conviction: Despite a 5.1% gain in the S&P 500 over the past month, investors aren’t yet showing strong conviction about where to deploy fresh capital. Elevated correlations imply they’re still treating the market as one big trade.
- Unresolved concerns: Ongoing worries over trade policy, inflation, monetary policy, and slowing U.S. growth continue to weigh on sentiment. “Markets haven’t fully healed from the April shock,” says Colas.
While the index level of the S&P 500 may suggest everything is back to normal, the internal dynamics say otherwise. “Correlations tell a very different story,” Colas concludes. “Markets are still waiting for clarity on several fronts. That’s actually a bullish sign — as those uncertainties resolve, confidence should return.”
