The Markets: From Neglect Into Opportunity
The discussion in the markets were the Joe DiMaggio like rise in stock prices – day in day out, the market persistently rose or suffered merely a modest decline. After Joltin’ Joe’s streak ended, he went on another 16 game hitting streak; can the market replicate that feat? Since 1992, there have been 17 instances where the markets did not suffer more than a 1% decline, with the markets rising in 13 of the 17 instance over the next two weeks. So maybe there is hope for a consistent market through the rest of the month.
What is certain is the consistent market has mirrored the seemingly consistent economic data released over the past few months. The weekly jobless claims number, after jumping due to seasonal factors last week, settled down this week and is back below the 10 week average and getting close (again) to getting below 400,000. The much maligned housing market got a boost yesterday from the rise in permits – although the permit jump may have been from changes in building codes. Today, existing home sale rebounded nicely and more importantly inventories declined as did the months supply. Housing is still in the infirmary, as the home builders confidence index remains WAY below the 50 level indicating a healthy market (it came in at 16 for the third month in a row). The biggest question facing investors is whether the economy, aided by Federal Reserve intervention, is ahead of the financial markets or the markets are ahead of the economy. Unfortunately the answer won’t be evident until the Fed finally stops their daily purchases of Treasuries, which is scheduled for mid-year 2011.
The economy seems to have been cleaved into two parts, the manufacturing – which has been performing well and the consumer related/service side, which continues to struggle. The key difference between the performance of these two parts of the economy comes down to international exposure, many of the manufacturing companies have benefitted from continued expansion in international markets, while the service side is tied more closely to the still debt-burdened consumer. This can be seen in the trade picture, where exports (on a real basis) have been growing, while imports have been falling. This will provide a boost to overall GDP, which is running around a 3% rate and looks to continue that through the first quarter of 2011.
Over night, China – the savior for economic growth around the world, indicated growth was actually above expectations and 9% originally estimated. The response: markets around the world declined, commodity prices fell sharply and interest rates rose…huh? In the perverse world of the stock market, that growth is likely to fuel additional rate increases in Chinese interest rates, which have been increasing regularly over the past six months as China tries to reign in their hot growth. If yesterday’s growth rate is any indication, it doesn’t look as though the interest rate increases have had an impact – further worrying investors that future hikes may be more aggressive, increasing the risk of a hard rather than soft economic landing. If the US is going to attach their star and economic policy to the growth of others – instead of inwardly focusing upon developing policies that encourage domestic growth, our markets are likely to succumb to policies “over there” instead of what can be controlled here.
So what about the financial markets? It looks as though the complexion of the markets are beginning to change and rotation is occurring, leading to opportunities in parts of the markets that have been neglected for the past four months. Looking a some of the leading market components – starting with small cap stocks.
What is interesting about this chart is the relative strength shown in the lower half, pointing to general weakness in small cap issues as compared to the SP500, even though prices were rising. With the market action of the past few days, prices have finally broken the uptrend begun in September. Similar chart pattern (without the picture) is being seen in the gold/silver market as they began under performing the broad market late in the ’10 and the prices broke below its trendline early in 2011.
So if these two former leaders are beginning to wane, where is the strength? Within the SP500 industry groups, this is a tougher question to answer. Technology has been besting the markets since the year began, however the group has been volatile – showing a few months of outperformance followed by underperforming the markets and back again. Working in favor of technology, at least through the end of yesterday’s close, is the price trend remains in place as well as a turn higher vs. the SP500. (see below)
Energy remains in a very well defined uptrend, but these are the common stocks underlying the oil commodity. Too, many of the indices are dominated by Chevron and Exxon (CVX & XOM), which have performed well through the recent market turmoil and volatile oil prices. Finally, healthcare may be starting to outperform the broad index as well; however trying to jump comfortably on this sector has been tough. While prices have trended higher, it has underperformed the SP500 over the same period that small stocks and commodity prices have outperformed. As with technology, healthcare stocks (using the Healthcare Spider – XLV) have done well since the turn of the year.
Are the financial markets on the cusp of making a long-term shift in leadership from commodities and small stocks toward more “stable” groups like technology or healthcare? The evidence suggests this may be the case; however if the overall market correction is shallow, as it was during November, using market weakness from the leaders to increase holdings may be a better tactic. As long as the SP500 remains in the well defined uptrend (that is showing support near 1260 today), the decline can only be classified as merely a correction instead of something more ominous.
About Paul J Nolte CFA
Paul J Nolte CFA Archive
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