Move Towards Strength

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When someone asks me if I “like” the market I typically answer, “It all depends”. There are times when I “like” the majority of stocks and there are other times when selectivity is the key. Selectivity is becoming increasingly important in the current market environment. The difference in performance between the leaders and laggards in the market is widening. There is increased selectivity between and within sectors now. Earlier in the year entire sectors were moving higher in tandem. Now those moves are not nearly as uniform as they were in prior months. This often occurs during earnings season. Also, after the sharp advance we have seen in the markets from the lows of the fourth quarter of last year it is expected that people will become more selective.

Evidence of the greater selectivity can be seen in stocks that have provided leadership over the last month. Several large blue-chip stalwarts have moved aggressively higher over the past month. Some examples of these recent outperformers are AT&T, Kraft, Coca-Cola and Verizon. At the same time some of this year’s big winners have pulled in recently. Apple would be a clear example. When total return stocks move to the front of the pack it is a sign that major rotation is taking place in the market. This rotation must be respected. While money has moved into some of the large cap leaders I mention above other blue chips have lagged, like Procter & Gamble. So, the “I like tech” or the “stick with high dividend payers” calls are frequent, they need to be followed with extreme caution. I will be increasingly dependent on the charts as we enter the summer months. The charts are making it clear that selectivity is the key to performance in this tape. If someone asks me if I like the high dividend payers I will answer it all depends. Which ones do I like? I like the ones that perform!

I have been mentioning divergences for the last several weeks. We will have to continue to navigate these divergences very carefully over the coming months. Some divergences were cleared positively last week. All the major indexes I cover weekly moved above the levels I have been watching. But, while several readings have improved in recent weeks they remain well below the yearly highs. This is another sign of the rotation and selectivity that is driving daily returns. 

The overall technical picture is both good and bad. The technical picture has improved over the past few weeks (good), but things are not as strong as they were earlier in the year (bad). 73% of the stocks in the S&P 500 are either basing or advancing. 70% of smaller cap stocks are in sound shape technically. While both of these readings are strong, they are well off their highs of 84% and 85% respectively. So again, I will follow the drill and remove names that are breaking down technically and move assets to performers. 

Here are the key support and resistance numbers I am watching for on the major averages, S&P 500, NASDAQ, Dow and Russell 2000: key intermediate term support levels are 1356/12,700/2945/782. If the following resistance is taken out then the market is moving higher to 1423/13,300/3135/869. Again, I must stress that we do not become fixated on the key levels of just the indexes. I will remain vigilant on monitoring key technical levels for all the holdings of my portfolio. I will not make excuses for names that are not performing. Perform or be banished. There are enough strong performers that I can move money into. It is critical that I use the charts to ensure that I am consistently moving my portfolio toward strength.

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About Thomas J Smith CFA