WEAK DOLLAR BOOSTS COMMODITIES DURING FIRST QUARTER -- USING 50-DAY AVERAGE TO FILTER BUY SIGNALS -- FOREIGN STOCKS OUTPERFORM US -- MERCK AND COKE ARE DAY'S DEFENSIVE LEADERS -- REGIONAL BANKS AND HOMEBUILDERS FALL --

COMMODITIES TOP ASSET WHILE DOLLAR IS WEAKEST ... A review of the first quarter performance numbers reveals some interesting trends. Among market sectors, the strongest (in order of relative strength) were basic materials, utilities, energy, telecom, and consumer staples. The weakest were financials and housing. From an asset class standpoint, commodities had the strongest quarter (+3%), stocks ended flat, and bonds and the dollar lost ground. The dollar was the weakest of the four markets. The weak dollar during the first quarter explains a lot of the other trends. If the dollar is weakening on expectations for a slowing U.S. economy, that would explain investor preference for defensive groups like consumer staples, telecom, and utilities. The weak dollar also accounts for much of the buying in commodities, and gold and oil in particular. Commodities usually rise when the dollar falls (Chart 1). The weaker U.S. currency also explains relative strength in foreign markets. Foreign stocks gained 4% on average while the U.S. market was flat. Emerging markets gained 2.4%. Some of that buying came from commodity producers like Latin America which benefited from rising commodities.

Chart 1

USING 50-DAY AVERAGES TO SPOT UPTRENDS... I'm a believer in investing in the market's strongest places. That's especially true when the market is in a period of indecision (like now). One of the simplest filters that I know of to keep out of trouble is to limit one's purchases to stock indexes, sectors, industries, or stocks that are trading over the 50- and 200-day moving averages. In looking through the various stock market groups at the moment, the list is currently limited to basic materials, consumer staples, energy, gold, telecom, and utilities. Most foreign stock market ETFs are also trading over their moving averages, including Emerging market iShares and the EAFE Index. Chart 2 shows the EAFE Index iShares (EFA) crossing over its 50-day line two weeks ago. The only major foreign ETF trading below its 50-day line is Japan (EWJ).

Chart 2

MERCK BREAKS OUT ... I've been showing individual stocks in the consumer staple and healthcare sectors that are showing a combination of absolute and relative strength. Merck is the top gainer in the Dow today and is having a good chart day. The daily bars in Chart 3 show the drug stock breaking through its March high to reach the highest level in two months. Its relative strength ratio (bottom of chart) is rising as well. The stock needs a close over its January high at 46, however, to resume its major uptrend. The monthly bars in Chart 4 show that Merck has been rising for the last two years. It appears on the verge of reaching a new three-year high. If it does, the next upside target would be to 54. Its relative strength ratio bottom at the end of 2005 and has also been rising.

Chart 3

Chart 4

COCA COLA NEARS 52-WEEK HIGH ... Another Dow leader comes from the consumer staples group. Chart 5 shows Coca Cola moving close to a challenge of its December high at 49. The monthly bars in Chart 6 show that there's an even bigger test around the 50 level. That price level turned back a rally that took place during the first half of 2004. With its major down trendline having been broken a year ago, and its relative strength ratio starting to rise for the first time in years (solid gray line), the odds for an upside penetration of 50 are much better this time around. The RS line on the daily chart has been rising for the last month. Coke and Merck are both trading over their moving average lines.

Chart 5

Chart 6

REGIONAL BANK HOLDERS LOSE GROUND ... Financial stocks were the day's weakest market sector. The weakest part of that group was regional banks. Chart 7 shows the Bank Regional Holders (RKH) falling over a percent today on rising volume. The RKH appears headed for another test of its 200-day moving average. Its relative strength ratio (top of chart) has already undercut its December low. Banks, brokers, mortgage lenders, and homebuilders had a bad day. Chart 9 shows the PHLX Housing Index closing below its 200-day moivng average for the first time since last Thanksgiving. The HGX recently broke an eight-month up trendline. Its relative strength ratio peaked in early February and has been falling since. It's nearing a test of last November's low. Notice how long ago the HGX broke its 50-day average (blue arrow). That's why we pay attention to that support line. Continued weakness in housing helps explain why money is gravitating toward more defensive stocks and why the dollar continues to weaken, which is where this article started.

Chart 7

Chart 8