March has been a little rough for the stock market thus far, but there are a few areas where the pullback has represented welcome relief. Home construction ($DJUSHB) is one of those areas. Cyclical stocks, of which home construction is a part, seemed to take a much needed breather in 2014, but they have come roaring back in 2015 and are clearly the choice in terms of consumer stocks. First, let me make the case for cyclicals (consumer discretionary - XLY) vs. their more defensive counterpart - consumer staples (XLP). The charts don't lie and here's a visual representation of the relative strength of the discretionary space over the past several months:
The above is one of my favorite relative charts. I use it to help determine the sustainability of a bull market rally. I want to see bullish relative behavior of discretionary stocks (XLY) vs. staples (XLP). It simply reinforces the notion that traders have an aggressive mindset and it's that aggression that generally keeps a bull market intact. Over the past few years, it's obvious to see that the S&P 500 has been trending higher in a very strong bull market. It's very important to note that the relative performance of the XLY:XLP further supports this rise. Many might view the declining relative strength in 2014 as a sign of an impending bear market. While that's certainly a possibility and should be considered as such, another possibility was that the XLY simply needed a period of consolidation on a relative basis. A relative bullish wedge formed during 2014 and we recently saw a breakout of this bullish formation just as the S&P 500 broke to fresh all-time highs. I can't support the theory that a bear market is upon us given this bullish behavior. Keep in mind, however, that this is but one area of the market. Not every single technical sign will simultaneously flash "BEAR MARKET" so we need to stay on our toes. For now, though, consumer stocks are suggesting we have further upside in the months ahead.
So that brings me to home construction, a significant component of cyclicals. Now that I've established that market behavior favors a continuing bull market, my overall strategy is to remain long and buy on short-term selloffs where my reward to risk improves in areas of the market that appear to be poised for out performance. In that regard, check out the DJUSHB longer-term weekly chart:
The DJUSHB recently broke out above its ascending triangle resistance near 550 with a measurement of an additional 160 points, or 710. The recent selling has tested key price support at 550 and I'm also watching that rising 20 week EMA, currently at 535 for further support. So watch that range of 535-550 as an area of solid reward to risk for entry into this space. We tagged 550 support earlier this week.
For a more conservative approach to investing in home construction, you can consider an ETF (Exchange Traded Fund) that invests in a basket of home construction-related stocks (ITB). The longer-term weekly chart looks very similar to the DJUSHB and we see not only an absolute breakout, but also a relative breakout vs. the S&P 500. Take a look:
These bullish continuation patterns kept home construction in consolidation mode throughout 2014, helping to explain the relative underperformance of this space specifically and cyclicals in more general terms. But now that we've seen breakouts, cyclicals have become one of the "go to" sectors in 2015 with home construction helping to lead the charge.
For those interested in a more aggressive approach to the group, Ryland Group (RYL) is standing above its peers after posting quarterly revenues and earnings that beat Wall Street consensus estimates. Here's the recent daily chart that shows solid volume (potential accumulation), an absolute breakout and a relative breakout:
Happy trading!
Tom
