BROKERS BREAKOUT TO THE UPSIDE -- THAT'S GOOD NEWS FOR THE MARKET -- RECENT ROTATIONS SHOW MORE OPTIMISTIC MOOD
BROKERS PLAY CATCH-UP TO FINANCIALS ... The financial sector has been one of the market's strongest groups all year. That can be seen by the rising relative strength ratio of the Financials Sector SPDR (XLF) in Chart 1. Chart 1 also shows the XLF trading above its May peak to hit a new record high. Most of that financial strength, however, has come from bankers and insurance companies. Brokerage stocks have been financial laggards. At least until today. Thanks to a couple of positive earnings reports from Goldman Sachs yesterday and Lehman Brothers today, the AMEX Broker/Dealer Index in Chart 2 is breaking out to a new three-month high. This is the first sign of absolute and relative strength that we've seen from this group all year. Since brokerage stocks are often viewed as market barometers, their rise today is another positive sign for the market.
Chart 1
Chart 2
GOLDMAN AND LEHMAN ARE BROKER LEADERS ... Charts 3 and 4 show the strong price and volume action by Goldman Sachs and Lehman Brothers. Goldman gapped up to a new four-month high yesterday on very strong volume. Lehman is hitting a new four-month high today on strong volume. The relative strength lines of both broker leaders are also turning up -- although Goldman appears to be the stronger of the two. On the back of yesterday's jump in retailers and consumer discretionary stocks, it seems clear that the market mood has turned more positive with the recent drop in energy prices and falling bond yields. Falling bond yields are positive for financial stocks. And rising financial stocks are positive for the market.
Chart 3
Chart 4
MORE ON MARKET ROTATIONS ... Market rotations tell us a lot about the current mood of the market. Sometimes these rotations have long-term significance and sometimes they're more intermediate in nature. I'm not completely sure which category the current rotation fits into. But it is following a normal script. When energy stocks are in a leadership role (through most of this year), defensive stock categories like consumer staples, healthcare, and utilities are market leaders. That's also been the case through most of the year. Some of the weakest sectors have been retailers, technology, and transports. At market bottoms, however, the pendulum swings back to financials, consumer discretionary (retailers), technology, and transports. The catalyst for that switch is usually a peak in energy prices (and energy stocks). Those four groups have been showing relative strength so far this week. I'm not sure how long it will last. But it is a sign that investors have turned more optimistic. The rebound in the transports isn't terribly impressive. But the Dow Transports are trading over their 50-day average at the same time that the Dow Utilities are falling below their 50-day line. That suggests that some money is switching out of utilities and back into the transports. Transportation stocks are especially sensitive to energy trends.
Chart 5
Chart 6
DOW COMPOSITE INDEX STRENGTHENS ... Chart 7 plots the Dow Jones Composite Average which includes the 65 Industrials, Transports, and Utilities. It's been trending sideways since May in a triangular-shaped pattern. After bouncing off its 200-day line on Monday, the DJA is challenging the downtrend line drawn over its May/July peaks. It seems that strength in the Industrials and Transports is offsetting weakness in the Utilities. A decisive close above the resistance line would be a positive turn for the Dow complex and the rest of the market.
Chart 7
WORLD STOCK INDEX IS STILL IN UPTREND ... Last week I wrote about the importance of the S&P 500 staying above its early July peak. The same is true for the Dow Jones World Stock Index shown in Chart 8. One of the rules of charting is that market pullbacks shouldn't fall below a previous peak. The peak I'm referring to here is the early July peak at 247.89 (down arrow). In order for the current uptrend to continue, it's important that the DJW stay over that level. That's because previous peaks (resistance) become new support levels once they're exceeded. The green arrow to the right shows that the DJW is bouncing off that support level. Here again, that doesn't tell us how high the rally will go or how long it will last. All it tells us is that the global uptrend that started at mid-year is still intact.
Chart 8
