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| Bellwether |
What It Is:
A bellwether is a security or indicator that signals the market�s direction.
How It Works/Example:
Let�s assume XYZ Company is an auto manufacturer. If XYZ Company stock
typically falls before the rest of the automotive sector falls or rises before
the rest of the automotive sector rises, we could consider XYZ Company a
bellwether of the auto industry.
A security�s bellwether status changes over time, but in the equities markets
the largest, most well-established companies in an industry are often the
bellwethers (the 20-year Treasury bond is considered a bond bellwether). Usually
profitable and stable, most have a solid competitive position, established
customer bases, and brand loyalty. Some have even proven to be exceptionally
resilient during weak economic times. These stocks also form the foundation of
most major market indices; large-cap bellwethers dominate the Dow Jones
Industrials, the S&P 500 and the Nasdaq Composite.
Why It Matters:
There is a connection between bellwether status and institutional ownership.
Bellwether stocks often have large institutional ownership, and institutions
often have tremendous influence on stock prices. But because most mutual funds
engage in some form of indexing, most commonly by benchmarking against the
S&P 500, those investors who don�t own bellwether stocks directly probably
still have exposure to them through their mutual fund holdings.
Although bellwether stocks may signal things to come, they are not always the
most attractive investments in their sectors. By the time a company reaches
bellwether status, its market-beating growth days are usually well behind it and
its enormous size makes meaningful expansion difficult to come by. Instead,
investors may consider using bellwether stocks as indicators but investing in
up-and-coming bellwethers that still have plenty of growth potential ahead of
them.
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