What is Bellwether
A bellwether is an event or indicator that shows the possible presence of a trend. The performance of certain companies/stocks and bonds are considered by analysts to indicate the condition of the economy and financial markets because their performance is well-correlated with a trend. Bellwether companies are usually the market leaders in their respective sectors. The word is a combination of "bell" and "wether." Shepherds would often hang bells around the necks of the sheep that led the flock in order to determine where they were in the fields.
BREAKING DOWN Bellwether
A bellwether stock is a stock that is used to gauge the performance of the market in general. A bellwether stock's status as a bellwether status may change over time, but in the equities markets, the largest, most well-established companies in an industry are often the bellwethers. Usually profitable and stable, most bellwether stocks have proven themselves in an industry with established customer bases and formidable brand loyalty. Some have also proven to be resistant to economic downturns. 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.
While bellwether stocks may indicate future developments, they are not always the best investments in a sector. Once a company achieves bellwether status, its market-beating growth days are usually well behind it and its enormous size makes meaningful expansion difficult. Instead, investors may use bellwether stocks as indicators while actually putting their money into up-and-coming stocks, with plenty of growth potential ahead of them, which they believe could be the bellwethers of the future.
Examples of Bellwethers
For many years, General Motors was an example of a bellwether stock, hence the saying, "What's good for GM is good for America." Quarterly financial results of the company have long been considered a bellwether. FedEx is also considered a bellwether for the economy. Strong revenues and earnings for FedEx suggest strong consumer and business shipping activity, which ebbs and flows with the strength of the economy. Shipping and rail stocks have historically been particularly good bellwethers for the U.S. economy. In addition, a rapid decrease in available steel may indicate economic recovery, since steel is used in manufacturing and building. Similarly, Alcoa Aluminum is a bellwether because it operates in a cyclical industry, and strong earnings suggest a strong overall economy. In addition, Alcoa is always the first major company to report quarterly earnings, and its report is considered a bellwether for corporate earnings season.