What are the Bellwether stocks?

There are a number of ways to approach trading on the stock market. Some develop technical skills to read the stock charts and take positions accordingly, while others take a more passive approach and invest in different stock market indices that track the movements of a specific industry. 

No matter what your trading approach is, bellwether stocks can be a guiding factor to your overall strategy. A bellwether stock indicator is considered to reflect the general state of the stock market.

A bellwether stock refers to the shares of a company with a strong position in the industry. These are typically known as blue-chip companies and tend to be market leaders in their respective industries. 

With their significant market share and strong earnings, the stocks of these companies define bellwether stocks, since their stock market performance can be indicative of the overall state of the market, and of the economy at large. 

They are also known as barometer stocks, since they act as proxies for the performance of a specific industry and help in measuring the pulse of the stock market and the economy at large.

Bellwether stocks explained

While bellwether stocks relate to the stock market and economy, the origin of this term relates to a rather simplistic setting. It is derived from Middle English and refers to a single sheep that leads the rest of the flock, thanks to a bell tied to it. 

A shepherd, hearing the sound of the bells, could then estimate where their flock was. Similarly, a bellwether stock’s performance is indicative of economic trends that could affect the stock market in future, and traders can study the movement of bellwether stocks to take positions accordingly. 

How are Bellwether stocks chosen?

While there are no set criteria to being a bellwether stock, there are certain checkboxes that one should typically meet.

• A bellwether stock usually relates to large market cap companies that have existed in the industry for a significant time. A company with limited years in business can struggle to act as bellwether stock, because it hasn’t operated through enough different economic cycles to prove its worth and operational standing.

• The financials of the company must be stable and strong over the last couple of years. To emerge as a market leader, it is crucial that the company has a solid and financially sound operational background.

• A bellwether stock would ideally have a reputation for meeting, or even surpassing, the consensus revenue/earnings targets of analysts in its financial results on a consistent basis.

• Stock market indices are a collection of different stocks of companies that are considered to be indicative of the broader industrial sector, or economy. A bellwether stock list can typically be found in the popular stock market indices such as the S&P 500 (US500) or the Dow Jones Industrial Average (US30).

Why are Bellwether stocks important?

Bellwether stocks can be indicative of economical trends to come in the future. Since bellwether stocks are usually large, respected blue-chip companies, the performance of these stocks can suggest how the economy is performing in general.

For example, if we look at the poor earnings for retailing giants in Q1 2022, Walmart and Target are a clear indication of inflation weighing in on the economy. In that sense, companies like Walmart and Target are examples of bellwether stocks in the retail sector. 

By studying the movements of bellwether stocks, traders can make more informed decisions with respect to their trading choices.

Do Bellwether stocks remain constant?

In short, no. A company’s stock may be considered as a bellwether stock at one point but then, over time, lose that coveted status because of its poor financials or inability to meet analyst expectations. 

For example, many analysts consider General Electric to no longer be a bellwether stock, as it once was, since it has narrowed its portfolio to become an industrial company. Apple, on the other hand, is considered to be a bellwether stock within the technology sector.

Hence, it is important to keep yourselves updated in terms of which companies are considered to be bellwethers before using their share price movements as a basis trading decisions.