Which Sectors, If Any, Are Poised To Lead The Market Higher?

It’s no secret that I have been bearish on the equity market for some time. Nevertheless, it's always a good idea to remain flexible and look at all angles, so at Tuesday's webinar Greg asked me a great question. What would need to happen to reverse the negative long-term technical position and turn it into a bullish one? One way is to examine which sectors are in a position to quickly reverse and push prices higher. There are two ways of attacking that question. First, in every market situation there will always be sectors or industry groups that are showing superior relative strength, just by the nature of the sector rotation process. Provided this relative action is not overstretched, those would be the most likely candidates to lead the overall market higher. Second, also we need to examine the technical position of their absolute prices. After all, Sector A could be showing strong relative action but if the market is cratering it could be that that particular sector only drops by say, 10%, compared to the market, which is eroding at a 20% rate. Bottom line, we have to find the better acting sectors and then determine whether they are positioned to rally in an absolute sense as well.

The tool I use to accomplish this task is what I call my “Intermediate Nirvana” template. It earns the term “Nirvana” because it contains the four things I need to accomplish my task. It tells me what is happening to the absolute price and the current position for intermediate momentum.  It also represents the relative action of that sector to the market as a whole (S&P Composite $SPX) and, equally as important, its momentum of relative action. As a general rule the best time for making purchases is when both KSTs are around or below zero and are starting to turn up. When subsequently confirmed by a price and relative strength trendline/EMA reversal it's all systems go.  An example is shown in Chart 10 at the beginning of 2014 and has been flagged by the green trendlines and arrows.

Normally, I compare prices to their long-term KST for both the absolute and relative prices. However, if I am going to answer Greg’s question concerning a quick turnaround to the upside I need to adopt a more sensitive time frame—hence the intermediate KST. I should add for the record that the long-term KSTs for each of the 10 sectors are in a declining trend of some kind, which is a contributing factor for my long-term bearish conclusion. When one or two of them start to reverse to the upside that will provide the starting foundation for a more bullish stance. Bearing that in mind, let’s quickly move through the various sectors to answer Greg’s question. I’ll start with the least likely to push the market higher, gradually moving to the better looking ones. Remember, all these charts are plotted using the same Intermediate Nirvana template.

Troubled Sectors

Chart 1 shows recent action for the Financials (XLF). As you can see the price has recently violated a major up trendline and 65-EMA. The KST for the absolute price remains in a declining trend. The relative line has experienced a false break to the upside, which suggests that the lower (red) line will soon be violated. However, the key that suggests that financials will not lead the overall market higher is the bearish looking intermediate relative KST.

Chart 1

Healthcare (XLV) in Chart 2 has also violated a major up trendline and its absolute KST is still declining. The relative trend remains positive, but the overbought and declining KST for relative action does not argue for a sustainable leadership trend.

Chart 2

The Spider Energy ETF, the XLE, and Basic Materials (XLB) have been two of the weaker sectors in 2015. Charts 3 and 4 show that they are continuing in their downtrends on both an absolute and relative basis. Both KSTs are oversold, which means that a bounce in the fortunes of these resource oriented sectors could easily take place. However, since the word “bounce” seems more appropriate than "sustainable", these sectors are more likely to support rather than lead a rally.

Chart 3

Materials (XLB)

Chart 4

A lot of damage has been down to the Spider Industrials (XLI) because the price has broken down from a top and violated its 65-week EMA. Relative action has managed to accomplish a similar dubious feat. One positive factor lies with the relative KST, in the bottom window of Chart 5, since it has started to go bullish. Unfortunately, the strong overhead resistance for both the absolute and relative lines suggests that any intermediate rally will find great difficulty in achieving sustainable new highs on either basis.

Chart 5

More positive sectors

Chart 6 shows that the Dow Jones Telecom ETF, the IYZ, is one of the few that has not yet broken down. This means that there is less overhead resistance should it choose to rally.  More encouraging is the fact that the KST for relative action has begun to turn up and the RS line itself is just below a major down trendline. Of course, further general market weakness could cause the absolute price to break to the downside, meaning that a rise in RS action would mean less of a decline than other sectors. However, as it stands right now, this sector looks poised to take advantage of any advance that takes place from current levels.

Chart 6

Technology (XLK) represents a real contradiction as the absolute price has violated a 3-year up trendline and dropped below its 65-week EMA. On the other hand, its RS line has just moved to a new all-time high and the RS KST is bullish.  That suggests that the best the price is likely to do is rally back to the extended up trendline at a marginal new high. Upside leadership perhaps, but not a sustainable one.

Chart 7

Consumer Cyclicals (XLY) are in a similar technical position to technology, except that their relative action has been much stronger. Also, the breakdown in the absolute price has not been so serious, which argues for relatively less overhead resistance in the event of a rally.

Chart 8

Their close cousin, Consumer Staples (XLS) also looks more promising, except to say that the relative KST is now close entering overbought territory.

Chart 9

Utilities (XLU) have broken an uptrend in the top window of Chart 10. However, both the absolute and relative KSTs are both bullish. None of the other sectors can make such a claim at this time, so utilities are my favorite going forward. Sadly for the market as a whole this is a defensive sector and does not carry a very heavy market weighting at less than 3%.

Chart 10Good luck and good charting,
Martin J. Pring

The views expressed in this article are those of the author and do not necessarily reflect the position or opinion of Pring Turner Capital Group or its affiliates.