Are You Placing Too Much Faith in the 'Risk-On' ETF Trade?

NEW YORK ( ETF Expert) -- It doesn't take much for stock markets to rev up their "risk-on" engines.

For instance, European leaders have offered little more than verbal promises in their desire to push equity prices higher. Meanwhile, market-watchers celebrated the Bureau of Labor Statistics Employment Report (163,000 net jobs gain) in the U.S., even though a variety of unemployment/underemployment measures degenerated in July.

In truth, European leaders have yet to agree on how to keep Spain from spiraling out of control, let alone whether or not to keep handing money over to Greece. What's more, roughly the same number of people left the labor force as those who earned a new paycheck last month; that is, the labor participation rate continues to lose ground.

Nevertheless, investors in the major averages -- S&P 500, Dow, Nasdaq -- are experiencing the rush of recent three-month highs. And lately, cyclical sectors from technology to materials have led the pack.

So is risk really back on the equity table?

At the start of 2012, the fastest flyers were the emerging markets, Europe and U.S. small caps. U.S. large caps performed well, but they were not the front-runners.

It follows that if we genuinely have an environment where investors are willing to wade into the most aggressive end of the stock pool, we would see Europe and the emergers and the smaller corporations outperforming the S&P 500... like they all did in the first three months of 2012.

However, the price ratio of the Vanguard MSCI Emerging Markets ( VWO) to the S&P 500 shows relative weakness for emerging markets, not relative strength.

The price ratio of the Vanguard MSCI Europe ( VGK) to the S&P 500 also demonstrates that European stocks -- like emergers -- are weak relative to U.S. equities.

Granted, both VWO and VGK appear to have put in respective lows in June and July. On the flip side, if these foreign ETFs do not have the relative strength to climb above a 200-day trendline, then we may not be experiencing a genuine "risk-on" move; rather, we may simply be seeing increased comfort with large U.S. company stocks at the expense of "cheaper" foreign stock assets.

If you liked this article you might like

4 ETFs to Profit From an Uncertain Political Environment

4 Outperforming ETFs to Own Right Now

With Emerging Markets Up, Is China the Best Landing Spot for ETF Investing?

6 Months Later, It's a Whole New Ballgame

6 Months Later, It's a Whole New Ballgame

Ray Dalio's Biggest Hedge Fund Hits the Pain Button