In Bank and Brokerage Stocks, Red Flags for the Wider Market?

Through the years, investors have keyed in on the price action in certain stocks and sectors to try and figure out which way the overall market was headed. Right now, one group whose fortunes have long depended on what people are doing with their money is flashing a major warning signal.

Few should be surprised to learn that the sector in question is comprised of investment banks and brokerage firms like Goldman Sachs (GS), Morgan Stanley (MS), and Charles Schwab (SCHW).

Some might think it implausible that the share prices of broker-dealers could march to a different tune than the one that plays out each day from 9:30 a.m. to 4 p.m. But oftentimes, money flowing into or out of one area of the market can be somewhat out-of-sync with the broader trend, especially if enough investors -- knowledgeable or otherwise -- sense that a stock- or industry-specific change is in the air. In that case, those issues tend to outperform or lag other issues.

Market-Wide Implications

But when it comes to Wall Street companies' shares, history suggests that shifts in relative performance shouldn't only matter to those who care about this particular sector. Such a divergence has often signaled a change with more far-reaching implications.

Back in 2007, for example, the benchmark NYSE Arca Securities Broker/Dealer index ($XBD.X) peaked in June, four months before the S&P 500 index. After that, the entire market went into a tailspin, losing more than half its value over the next 17 months.

More recently, we've seen a similar divergence between the sector and the market. As the chart shows, the broker/dealer index topped out last October and is currently testing support near its February lows. The S&P 500 index ($INX), meanwhile, hit new medium-term highs just last month.

Some market-watchers might argue that the shares of Wall Street firms are under pressure for a variety of reasons, including uncertainty about financial reform and unfolding legal woes, that have little to do with the state of the economy or the outlook for profits. However, the same could be said about many of the concerns that were raised about the sector last time around.

While it's too early to say that April's peak was the beginning of the end for the 14-month bull market, it's worth pondering if the recent disparity is saying the same thing as it did nearly three years ago.