FALLING YEN CONTRIBUTES TO UPSIDE BREAKOUT IN JAPANESE STOCKS -- DOW INDUSTRIALS HIT NEW RECORD HIGH -- UTILITIES AND HOMEBUILDERS HAVE STRONG DAY AND MAY BE BOTTOMING -- THAT WOULD TAKE WEIGHT OFF THE REST OF THE MARKET
FALLING YEN BOOSTS JAPANESE STOCKS... Chart 1 shows the clear inverse relationship that has existed between Japanese stocks and the yen since mid-2012. The falling green line is the yen, while the rising orange line is the WisdomTree Japan Hedged Equity ETF (DXJ). [The DXJ is the best way to benefit from a rise in Japanese stocks since it hedges out the negative impact of a falling yen]. Chart 1 shows that the plunge in the yen starting in the fourth quarter of 2012 helped launch a strong rally in Japanese stocks. [The plunging yen was the result of a new central bank strategy to combat Japanese deflation by buying Japanese bonds]. Starting in May, however, a rebound in the yen led to a peak in Japanese stocks. Both have trended sideways since May in "symmetrical triangles". Symmetrical triangles are identified by two converging triangles, and are "continuation" patterns. That means that they usually are resolved in the direction of their prior trend. The orange triangle show the DXJ rising above the upper resistance line to achieve a bullish breakout (orange circle). At the same time, the green line shows the Japanese yen falling below its lower line (green circle). That suggests that Japanese stocks are about to resume their major uptrend. Chart 2 gives a closer look at the upside breakout taking place in the Wisdom Tree Japan Hedged Equity Fund. Notice that the DXJ stayed above its (red) 200-day moving average throughout its consolidation. Chart 3 shows the Japanese yen forming a mirror image of the stock fund by staying below its 200-day line. The circle area shows this week's breakdown in the Japanese currency. Foreign investors in Japan need to take the falling yen into consideration since it hurts their stock returns. That is why the Wisdom Tree Japan Hedged Equity Fund (DXJ) has become so popular since 2012. I suspect it's going to become even more popular in the weeks and months ahead.
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Chart 1
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Chart 2
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Chart 3
DOW INDUSTRIALS RECONFIRMS NEW HIGHS... The Dow Industrials hit new record highs two days in a row, which leaves little doubt that the previous week's upside breakout was for real. Although the recent pullback dipped slightly below its September peak at 15709, it held above its August peak at 15658 which makes that level the new support line. As has been the case recently, the Dow was helped by another record in the Dow Transports (upper line). The Dow got even more help, however, from the Dow Utilities (lower line). I wrote in my Tuesday message that the industrials were being pulled higher by the transports, but weighed down by the weaker utilities. I further explained that the industrials usually do better when all three Dow Averages are rising. That's what happened today. While the tranports hit new highs, the Dow Utilities were, in fact, the day's strongest sector.
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Chart 4
DOW UTILITIES AND HOMEBUILDERS MAY BE BASING ... I've been focusing more on the Dow Utilities recently because they're so closely tied to bonds. A weak bond market (falling prices and rising yields) hurts utility performance (along with other rate-sensitive portions of the stock market). Chart 5 shows the Dow Utility Average trading well below its May peak (when bond prices peaked), and still below its July peak. The good news is that the $UTIL may be forming a bottoming pattern. Today's rebound shows it bouncing sharply off its 200-day moving average (red line), which suggests that it may be getting ready for another challenge of its summer high. That would be good for the Dow Industrials and the rest of the stock market. That's because it's difficult for the market to make much upward progress when interest-rate sectors are under pressure. The same is true of homebuilders which also had a strong day today. Chart 6 shows the Dow Jones U.S. Home Construction iShares (ITB) climbing more than 2% today, which made it the strongest part of the Consumer Discretionary SPDR (which hit a new record high). Chart 6 also suggests a bottom in the making. A close above the "neckline" drawn over its July/September/October peaks would turn the homebuilder trend higher. I suspect that today's strong buying in rate-sensitive portions of the market resulted from Janet Yellen's testimony before Congress to the effect that no timetable was set to start cutting back on quantitative easing (tapering). Those comments gave a boost to bond prices and rate-sensitive stocks. That in turn helped boost the rest of the market, including the Dow.
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Chart 5
