ChartWatchers Newsletter

An Ugly Price Relative, but a very Nice Uptrend

The price relative, or ratio chart, is handy for measuring relative performance, but it does not always reflect the trend for the underlying securities. For those unfamiliar, the RSP:SPY ratio measures the performance of the EW S&P 500 ETF (RSP) relative to the S&P 500 SPDR (SPY). RSP leads when this ratio rises because the numerator (RSP) is increasing faster than the denominator (SPY). RSP is lagging when the ratio declines. 

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Watching Support Fade

As the Dow Jones Industrial Average (DJIA) has been moving steadily to record highs, I have observed a persistent erosion of underlying support as expressed by 52-Week New Highs for the DJIA component stocks. The New High peak in March represents the highest level reached recently, and we can see a steady decline in the number of New Highs since then. Of particular concern is the contraction of New Highs in the last few weeks, which happened even as the DJIA squirted higher for nine days straight.

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Looking For Some New Direction In The Market

One of the hardest parts about investing, is staying with the constant rotation of sectors. Amazon is already down more than $100 since the high last week. Gulp! While it's only 10%, $100 a share is an ouch.

As the Nasdaq 100 has been a little soft of late, I thought I would look for oversold stocks that are starting to improve on the weekly. There are a lot of them in energy and Gold, but I thought there could be some in other areas. So this ChartWatchers is a little about looking for something to start moving up and avoiding some of the selling in the names that have been at new highs recently.

Dollar Tree (DLTR) broke support a few weeks ago and this week got back above. The Full Stochastic looks like it is turning up and the SCTR is moving back up above the 25 level. Interesting.

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Bond Yields Drop, Falling Rates Boost Technology Stocks

BOND YIELDS DROP ON LACK OF INFLATION ... June's CPI report showed no change from the previous month, reflecting the absence of inflation. Its annual gain of 1.6% was the smallest since last October. Excluding food and energy, the core CPI saw a modest monthly bounce of 0.1% (for an annual rate of 1.7%). The main reason why the core CPI is slightly higher than the headline number is the exclusion of food and energy. While food prices were flat, energy saw a June drop of -1.6% (more on that later). Given the Fed's growing concern with low inflation, those numbers are lowering market expectations for further rate hikes. As a result, bond yields are falling as bond prices rise. Chart 1 shows the 10-Year Treasury Yield dropping in Friday trading. Stock prices are rising along with bonds. Utilities, which usually rise with bond prices, are one of the day's strongest sectors. Bank stocks, which suffer from falling yields, are the weakest. Foreign stocks are also rising, especially in emerging markets. The dollar is falling along with bond yields (more on that shortly). The combination of a weak dollar and falling rates is boosting gold along with most other commodities.

FALLING RATES ARE BOOSTING TECHNOLOGY STOCKS ... One of the lesser known intermarket relationships is the inverse link between bond yields and technology stocks' relative performance. That make some sense. Growth stocks like technology don't need a stronger economy to thrive. In fact, they do better in a slower economy which is usually associated with low interest rates. Value stocks (like banks) do better in a stronger economy with rising bond yields. Let's take a look. The black line in Chart 2 is a relative strength ratio which divides the Technology SPDR (XLK) by the S&P 500. The green line plots the 10-Year Treasury Note yield. The two lines have tended to travel in opposite directions over the last fifteen years. The upturns in bond yields in 2003 and 2013 resulted in tech underperformance (red arrows). [The Fed's taper tantrum during 2013 pushed bond yields sharply higher and hurt tech performance]. Downturns in yields during 2008 and again in 2014 boosted tech performance (black arrows), which continued into the second half of 2016.

Risks Associated with Earnings Reports

Q2 Earnings Season is underway with 4 of the nations largest banks reporting their numbers Friday and thousands of companies getting ready to report over the next few weeks.

Earnings season brings with it both the highs and lows of trading. We'll see companies that beat expectations and move higher and others that beat and move lower. We'll also see companies that miss expectations and move lower while others might miss but move higher. In almost every case, traders are as or more interested in forward guidance than actual results. For example, a company might miss its earnings and revenue projections but guide higher for the future. This, in turn, might drive the price higher rather than punish the company for missing its numbers for the prior quarter. In other words, investors are always looking forward.

One of the things we preach at EarningsBeats is to avoid owning a stock in a company that is about to report earnings. The reason? There's simply no telling how the market might react to the numbers.

For example, look at the chart below of Helen of Troy (HELE) a company that reported its numbers last Monday. The Street was looking for earnings per share of $1.13. Instead, HELE beat expectations with 1.28 per share. The reward for beating expectations? Not so nice with the stock losing almost 10% from the prior day.

Interestingly, you can see that the stock had risen nicely ahead of its earnings report and was poised for a break out. This could have given the impression that the company was poised to move higher after its report. But the market didn't like what it saw - or heard -with the stock tumbling on the news.

Of course the opposite could happen and the stock could have soared higher on the numbers, but in fact there's simply no telling how the market will react to a report. So to me it makes sense to move to the sidelines ahead of an earnings report and revisit once the dust has settled. You might miss out on any upside from a positive market reaction but you won't feel so good if you lose 10%  in the blink of an eye.

At EarningsBeats we scan for and add those companies that beat earnings expectations and have solid charts to our "Candidate Tracker." We then wait patiently for strategic entry points. Instead of chasing gaps in those cases where the response is positive, we'll wait for pullbacks to appropriate and high reward to risk entry levels. And by sitting on the sidelines into a specific earnings report we remove the risk of getting hammered in case the market reacts negatively to a report. If you would like to see a sample of the Candidate Tracker just click here.

Anyone who trades stocks knows how difficult it is to make a profit. Holding a stock into an earnings report brings with it unnecessary risks.

At your service,

John Hopkins
EarningsBeats

Go Away In May? Let's Try July

As a stock market historian, if there's one thing that really annoys me, it's the talking heads saying to "go away in May".  While the May through October period is clearly less bullish than its November through April counterpart, there are loads of reasons to be long U.S. equities during May, June, July and October.  Seasonal strength to open and close calendar months is one such reason.  The following are bullish historical periods on the S&P 500 during the May to October time frame with their respective annualized returns since 1950:

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Update on Sentiment - AAII, NAAIM and Rydex Ratio

On Fridays during the MarketWatchers LIVE show (12:00p - 1:30p EST), I do a regular segment that checks what weekly sentiment charts are telling us. Three of the best sentiment charts from DecisionPoint are the American Association of Individual Investors (AAII) sentiment poll, the National Association of Active Investment Managers (NAAIM) and the Rydex Asset Ratio. Despite jumping to a new all-time high on Friday, sentiment shows that the bullish exuberance may be fading somewhat. Typically we read sentiment charts as "contrarian". This means that when these charts so an exceptional amount of bulls, that is actually read as bearish for the market and vice versa. However, before the storm, we will usually see some clues that investors and money managers are getting a little antsy or concerned. That's where I think we are right now.

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S&P 500 Seasonality and the Dog Days of Summer

The chart below shows the seasonal tendency for the S&P 500 over the last twenty years (1998 to 2017). The number at the top of each bar shows the percentage of months the S&P 500 advanced for that particular month, while the number at the bottom shows the average gain/loss (percentage) for that month. For example, the S&P 500 rose 55% of the time in June and the average gain is actually a loss (-.5%). 

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