DOW JONES HOME CONSTRUCTION INDEX REACHES ELEVEN YEAR HIGH BUT STILL LOOKS CHEAP ON A RELATIVE STRENGTH BASIS -- US HOME CONSTRUCTION ISHARES ARE HAVING A STRONGER YEAR THAN THE S&P HOMEBUILDER SPDR -- ENERGY SPDR HITS ELEVEN MONTH HIGH

DOW JONES HOME CONSTRUCTION INDEX REACHES ELEVEN-YEAR HIGH... Recent reports of strong home sales and home construction have boosted stocks tied to the housing sector. The low inventory of existing homes available for sale argues for even more homebuilding in the year ahead. All of which bodes well for the home construction industry. And its chart reflects that optimism. Chart 1 shows the Dow Jones US Home Construction Index climbing to the highest level since 2006. It's had a very strong year. The index has gained 74% during 2017 versus a 20% gain in the S&P 500. The largest homebuilding ETF (ITB) has gained 58% (more on that shortly). That was even stronger than the 35% gain in the technology sector. That would seem to eliminate the homebuilding group from consideration as being too expensive to purchase. But take a look at its relative strength ratio (solid area). That relative strength line went virtually nowhere between 2013 and 2016. This past year saw the first upturn in relative performance since 2012 (five years ago). This year's upturn in the housing ratio is important for two reasons. First, it has just broken out above its late 2012 high (see circle). Secondly, it is still very low compared to the rest of the market. That means it still has a lot of catching up to do. Which also suggests that on a historical basis homebuilding stocks are far from expensive.

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Chart 1

U.S. HOME CONSTRUCTION ISHARES ARE STRONGEST HOUSING ETF... The monthly bars in Chart 2 show the U.S. Home Construction iShares (ITB) trading at the highest level in a decade. This ETF offers the greatest exposure to homebuilding stocks and is the one I prefer to use. A second ETF also exists but with smaller exposure to homebuilders. That's the S&P Homebuilding SPDR (XHB). Both offer exposure to housing stocks, and both have had a strong year. But the ITB has done much better. The solid line in Chart 2 is a relative strength ratio of the ITB divided by the XHB. The rising ratio shows ITB having a stronger year than XHB (by a factor of 58% to 31%). The reason for that discrepancy is that the ITB has more concentration in homebuilding stocks (64%) versus a smaller homebuilding weight of 33% in the XHB. I generally prefer going with the stronger of the two. [Having said that, the XHB does offer a cheaper alternative than the ITB but possibly with less upside potential]. One caveat on Chart 2, however, is that this year's strong rally has pushed the ITB into very overbought territory with a weekly RSI reading of 83 (top of chart). But the ETF still appears to have a lot of upside potential. The next chart shows why.

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Chart 2

HOMEBUILDERS STILL LOOK RELATIVELY CHEAP... I showed a relative strength ratio of the Dow Jones Home Construction Index in Chart 1. I'm repeating it here on the Home Construction iShares (ITB) because I think it's very important and as another way of comparing the two housing ETFs. The solid line in Chart 3 is a relative strength ratio of the ITB divided by the S&P 500. It shows the ratio having just exceeded its early 2013 peak to register a bullish breakout. That's a positive sign. It's also worth repeating that the homebuilding group on a relative basis is still well below the heights reached prior to the housing-related financial meltdown that took place during 2007 and 2008. And while the homebuilding group may look overbought at the moment, Chart 3 tells me that the group is still cheap relative to the rest of the market. Chart 4 shows a relative strength ratio of the S&P Homebuilders SPDR (XHB) divided by the S&P 500. It's not even close to exceeding its 2013 peak.

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Chart 3

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Chart 4

ENERGY SPDR BREAKS OUT ... Yesterday's message showed the Energy Sector SPDR (XLE) nearing an upside breakout. Today's chart shows the XLE surging 2% to the highest level since January. Energy is the day's strongest sector. The can be seen in this week's upturn in its relative strength ratio (solid line). Energy shares appear to playing catch-up to rising energy prices.

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Chart 5

INVESTORS ARE BUYING TIPS FOR INFLATION PROTECTION... I suggested yesterday that the inflationary impact of rising energy prices might be starting to hurt bond prices. That may explain why fixed income investors are starting to buy Treasury Inflation Protected Securities (TIPS) which increase their principal payments if inflation rises. The green line in Chart 6 is a ratio of TIPS Bond iShares (TIP) divided by the 7-10 Year Treasury Bond iShares (IEF). The rising ratio over the last six months shows investor preference for TIPS. The black bars plot the United States Oil Fund (USO) nearing a new high for the year. It sure looks like the two lines are rising in tandem. Correlation doesn't always mean causation. But I suspect in this case it does.

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Chart 6

STOCK ARE HAVING ANOTHER STRONG DAY... Stock indexes are rising again today led by airlines, banks, oil service stocks, and small caps. Utilities are taking another bad hit. Homebuilders are helping lead consumer cyclical stocks higher. Selling in semiconductors is weighing on the technology sector which continues to lag behind. Foreign stocks are also rebounding.