If The Market Gets Liftoff, Which Sectors Are Likely To Lead?

• The long-term perspective
• Short-term indicators partially bullish
• Sectors offering positive relative action

The Long-term perspective

The US equity market has been moving sideways since July and has certainly worked off any short-term overbought condition. Some indicators are oversold, while others are still declining. During a bear market, these short-term indicators often do not respond, even to deeply oversold readings, whereas a typical bull market characteristic is that prices are very sensitive to such conditions. Chart 1, with a recent long-term KST buy signal, suggests to me that the current condition is that of a primary bull market. Since 1971 there have been 14 instances of a positive long-term KST MA crossover. Each was followed by a major rally. Green arrows represent the normal signals that developed from a sub-zero reading, while the blue ones reflect crossovers that developed from above the equilibrium point. One possible exception developed a few months prior to the 1987 crash when a signal was generated from a very high level. Since the NYSE Composite, like all of the major averages, is also above its 12-month MA, it’s difficult not to come to a long-term bullish conclusion for the equity market in general.

Statistically, the most bullish part of the year transcends November to April and it is 8-10-trading days away. It’s 8-days if you exclude the last two bullish trading days of the month and 10 if you include them. Either way, it’s not that far away. There are no guarantees that the November/April period will be positive this time, but that fairly consistent seasonal definitely helps the odds of a rally, especially in a bull market.

Chart 1

Short-term indicators partially bullish

Let’s quickly look at some of the near-term indicators and then those sectors in a positive relative trend that could take advantage of a rally and those which are likely to underperform.

Chart 2 features my Dow Diffusion indicator (!PRDIFDOW), which monitors the percentage of Dow stocks in a positive trend. Recent buy signals, when the indicator has crossed above its MA from a position at or below the green dashed line, have been flagged by the arrows. Historically, most have been followed by rallies, but the false July 2015 signal warns that it is not infallible. This indicator has just gone bullish, and the Dow itself bounced off its green breakout line on Thursday. The only negative on the chart lies in the fact that the February/July up trendline has been violated. That does not necessarily indicate that prices will fall, but it does flag a lack of upside momentum and a possible extended period of range bound activity.

Chart 2

Chart 3 shows our Bottom Fishing indicator (!PRBFISH). This one looks at the internal momentum of a basket of securities and flashes a buy (Bottom Fishing) signal when it reverses from at or below that green solid horizontal line. That’s its only function in life, as it does not trigger bearish signals. Most of the time, prices reverse after the Bottom Fisher gives its signal, but during more protracted declines, the signal develops during the course of a base building process. Those periods have been flagged by the green ellipses. There is no way of knowing whether prices will rally immediately after the Bottom Fisher signal, or whether more probing of the lows is necessary first. At the very least though, the appearance of a signal tells us that prices have basically stopped going down.  If you look very closely, you will see that the latest signal did not quite reach the “Fishing Line”, so it could be interpreted as problematic. However, I would rather have a close signal on my side than none at all.

Chart 3

Chart 4 compares the performance of the S&P High-Beta to the S&P High-Quality ETF (SPHB/SPHQ) ETF. They have not been around that long, but the relationship between them acts as a convenient reflection of confidence, or lack thereof, in the equity market. Generally speaking, the S&P and the ratio move up or down in tandem. In those instances, they are not offering much in the form of potential trend change information. However, at points 1-3, their paths diverge and bullish or bearish warnings are triggered. It’s bearish (red) when the ratio does not confirm higher prices in the S&P itself and vice versa.

For example, at point “3”, we saw the ratio hardly decline at all, unlike the S&P, which experienced a sharp Brexit low. Both series subsequently experienced a small rally. Currently, we are witnessing a similar divergence as the S&P has been in a trading range with a slight negative bias. This compares to the ratio, which shows that High Beta stocks have been handsomely outperforming High Quality in that same period. Note also that this positive action is also being supported by the ratio's long-term KST, which has just gone bullish. The implication is that the trend favoring higher risk stocks has only just begun.

Chart 4

Sectors offering positive relative action

The final charts in this article feature sectors that look as if they are poised to lead the market higher. They compare the absolute price with its long-term momentum, as well as the relative price (against the S&P) and its relative momentum. Ideally what we want to see is a breakout by the absolute and relative prices and for this to be supported by a KST that is above its EMA or pretty darn close to it.

Generally  speaking, the better-looking sectors, such as energy and technology tend to be earnings driven in nature. On the other hand, financials and transportation also look interesting, and they tend to do better during the early phase of the cycle, just after the economy is coming out of recession. However, in more recent cycles financials have been more favorably influenced by rising rather than falling ones. In the 1970’s for instance, the opposite was true. Transports are a real conundrum as they are emerging favorably at a time when energy is doing the same thing. Transports, of course, benefit from lower energy prices, whereas energy companies do not. Go figure or go with the trends, and watch that last chart featuring the Metals and Mining ETF. It's not yet bullish but getting pretty darn close!

Chart 5

Chart 6

Chart 7

Chart 8

Chart 9

Chart 10

Good 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.