by Harry G. Katica, Saut Strategy LLC
September 27, 2019
A Tom Petty Market
“Everyday you see one more card.
You take it on faith, you take it to the heart.
The Waiting is the Hardest Part.”
My mentor uses song lyrics to convey a mood for his market calls. He would turn up the volume while looking at research in his office. When I would catch him for a late afternoon chat, he would call me in and say look at this chart, look at that one. I could see the excitement in his eyes. He was ready to tell a new story. What’s going to be this time? I couldn’t wait to hear it.
If imitation is the sincerest form of flattery, I have adopted the style for myself. Sometimes the right song captures the mood perfect. You hear the song, and something clicks. Did the mood of the market just change? Sometimes you can just feel it.
For about 18 months, the market sentiment has vacillated between hope for a recovery and concern about a recession. The uncertainty has defined a wide trading range between 3000 and 2400 on the SPX, though it has felt like 3-4 mini cycles. Yet each time the market threatened to break out in either direction, the mood changed, and stocks would head the other way. It has felt like the movie Ground Hog Day, where the same day started over again.
The chart below may give an indication of future sector rotation. On Tuesday, Technology stocks and Small Caps fell more than the DJI and SPX. Tech has been the leading sector for most of the year. It has provided growth at a time when manufacturing has faltered. Consumers could be vulnerable to a loss in confidence, as they revealed Tuesday. If so, it would hit Small Caps first.
The next few months could lay the groundwork for a new market story. Things seem placid and quiet right now, but October is right around the corner. There is Brexit, China, Q3 earnings season, the ECB, and the Fed, to name a few. It could be an eventful month for the market. The waiting is the hardest part.
Stocks & Sectors
Stocks rallied after Labor Day on hopes of a trade resolution with China, a peaceful Brexit, and more stimulus from Central Banks. As he did several times this year, the Fed Chairman gave mixed guidance on his future plans. It seemed to disappoint the bulls, who were still looking for a 50-basis point cut. Stocks have sold off since then, as recent economic reports have cast further doubt on the timing of an economic recovery.
Perhaps the most important piece of the puzzle will be the US Consumer. The Michigan Consumer Confidence survey came out Tuesday and knocked down stocks. It was one of the first recent signs that the consumer may be getting bogged down by the 24-hour news cycle. A few more Employment reports, Thanksgiving, and Christmas, and the market should get a pretty good idea about the mood of the consumer. Right now, it still looks like a coin flip.
Relative performance was most interesting aspect of the past week. For the past six months, trading has been characterized by rapid sector and style rotation. This week, the news, which implied a potential slowdown in the US consumer, hit Technology and Small Caps harder than the S&P 500 and DJIA. These groups are positively correlated with the economy. The S&P 500 and DJIA are composed of liquid large cap stocks, which have been the backbone of the rally this year.
While cyclicals did well in early September, it’s been risk off ever since the Fed meeting a week ago Wednesday. Defensive sectors have once again delivered the best performance for the last week. Most of the cyclical sectors were in the red during the same time period. Employment numbers come out next week. The odds favor a disappointment. It could keep investors in a defensive mood until news comes out on Brexit.
Utilities were the best performing sector in the past week, rising 2.1%, compared to a 0.96% decline in the S&P 500. While the Fed was vague about future moves, the bond market was more decisive, pushing yields on the 10 and 30-year Treasury Bonds down declining for two weeks since the meeting. Economic reports during this time have been generally negative. This could change with a resolution on Brexit. Politicians are lurching towards a solution as the October 31 deadline looms. When investors thought there was an agreement three weeks ago, rates sprung higher. In my view, the risk is now greater than the reward for the sector
XLU - $65 Range - $59-$65. Point of Control - $61.00. Support - $62.50. Resistance - $65.00
Real Estate moving towards the upper end of its range, as rates are headed back down again. Momentum appears to be accelerating. The sector offers greater diversification than Utilities, with exposure to retail, hotels, industrial warehouses, apartments, home rental to name a few. As a result, there are generally a few names that have lagged the sector and offer am opportunity to rebound. In the Self-Storage group, EXR and LSI come to mind.
XLRE - $40 Range - $37-$40. Point of Control - $39.00. Support - $39.00. Resistance - $40.00
Source: Fidelity
Transportation stocks have been under pressure since rates started to fall two weeks ago. In this period, the economic reports have tended to support the slowing camp. The group has typically done better when news on the economy is more positive, or when rumors fly about Fed stimulus. Brexit could create a major change in investor sentiment. Anything short of a hard exit will likely be viewed positively for companies dependent on global trade.
IYT $189 Range $175-$195. Point of Control $182.50. Support $191. Resistance $184.
Industrials have given up part of the gains from early September, reflecting an indifferent Fed, lingering trade issues, and weak industrial production numbers. Aerospace & Defense (BA, NOC, UTX, HON) continues to be the best performing industry. It was helped by positive news on Boeing, which may be finally emerging from the doghouse. Building Products (OC, LII, AWI) has also demonstrated recent momentum. Many of these products sell into the residential construction market, which has been on the upswing with lower interest rates. Even Machinery is acting better. XLI $78 Range $73 to $79. Point of Control $77. Support $77. Resistance $79.
Materials have also been hit by concerns of a slowing economy, again. Driven by the Chemical industry, the sector recorded 52-week highs just several weeks ago. It seemed like short covering much of the way up, as many stocks gapped up on the open many times and did nothing the rest of the day. Metals & Mining (XME) fell during the week, as a weaker economy means less demand for the hard stuff.
XLB $58 Range - $55 to $59.50. Point of Control is $58. Support is $58.00. Resistance at $59.
Energy right back where it was two weeks ago, before the attack on Saudi Arabia. During this time Brent Oil fell from $69 to $61 and now sits at a level that has sparked rallies in the past. Both the E&P (IEO) and Services (IEZ) groups have been among the worst performers this year. It’s a sector that desperately needs a strong global recovery. The lower oil prices have been good for Refiners (CRAK), although that trade seems to be running out of steam.
XLE $60 Range $56-$64. Point of Control $61. Support $59.00. Resistance $64.00.
Communication Services have also struggled to make new highs. While the sector is normally a destination for those investors looking for growth with less economic exposure, regulatory issues have been a drag for the Interactive (Social) Media names like FB and IAC. Broadcasters and Cable are pulling the Media industry down. Developments in streaming services – more competition, lower prices – seem to be spooking investors. Stocks under pressure include NFLX, DIS, SPOT. Internet XLC $50 Range $48-$52. Point of Control $49.50. Support is $49.50 Resistance at $52.00.
Technology has been in the middle of the pack for the last week, selling off after the Fed meeting but holding up better than other cyclical sectors. Semiconductors and Software came back to life on positive comments about Trade by the President Wednesday. Internet related names (XWEB) are still weak. IT Services (V, MA) has lost some momentum since growth stocks took a hit in early September.
XLK $81 Range $76-$83. Point of Control $79. Support $79.00. Resistance $83.00.
Consumer Discretionary is still stuck in a downtrend. The group is still down from its high in mid- July, largely reflecting the pullback in AMZN (20-25% of the sector), which spooked the market on its Q2 earnings call. The worse than expected Consumer Confidence numbers on Tuesday added fire to the slowdown camp. Consumer Spending has been the major bright spot in the economy. Any further surprises, particularly on the job front, could lead to another move down in markets.
Most groups in the sector have struggled since the Fed meeting. Hotels (MAR, HLT, H), Restaurants (MCD, DPZ, DNKN, DRI), and Leisure Products are examples of high-ticket items that are first to get hit when the Consumer pulls back. Homebuilders continue to drive the Household Durable industry. Demand has picked up due to low interest rates. Apparel stocks benefitted from strong EPS from NKE.
XLY $120 Range $114-$124. Point of Control $119. Support $119.00. Resistance $122.00.
Financials are consolidating after nearly making a 52-week high. The sector fell back during the last week, as interest rates fell consistently. Most are still in the middle of a sideway range. Banks (KBE) and Broker/Dealers may stay under pressure until there is clear improvement in the economy. Think Brexit. Insurance stocks have regained momentum.
XLF $28 Range $26 to $28.50. Point of Control $28.00. Support $27.60. Resistance $28.50.
Yield on the 10-Year Treasury Bond Continues to Decline
Healthcare experienced an acceleration to the downside mid-morning Thursday. The sector started to slide midday Tuesday on a proposal floated by the House to give Medicare the ability to negotiate drug prices. Medical Devices could be vulnerable. They are still near highs and have avoided recent selloffs in the group. Biotech down near range lows; it’s a risk-off call. Pharmaceuticals are weak for the 4th day in a row. HC Services breaking down.
XLV $91 Range $89-$93. Point of Control $91. Support $89. Resistance $91.
Consumer Staples continues to make new highs, as investors seem content with safety and a little bit of growth. Beverages (KO, PEP) are hanging in near recent highs. Food & Staples Retailers may be showing a few chinks in the armor. COST and CASY have pulled back from recent. WMT still sits near 52-week highs. If the sector is going to roll over, WMT would likely lead way.
XLP $61 Range $58-$62. Point of Control $59. Support $60. Resistance at $62
Stocks to Watch
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