For someone who uses Dow Theory every single day, it’s not something that I write about much. I may indirectly reference certain tenets all the time, but rarely do I write specifically about the 130 year old Dow Theory. I think I pretty much laid it all out earlier this year in my post: 5 Things Every Investor Should Know About Dow Theory. The simple minded choose to stick to the Dow Jones Transportation Average and Dow Jones Industrial Average either confirming each other or diverging from one another. And while this may in fact be a one of Charles Dow’s tenets (although they were Railroads back then, not the Transports we have today), it does not even make it into my top 5 most important tenets. [Read more…]
In this week’s members-only letter we discuss the following topics:
- Why Has Latin America Been the Best Place To Invest?
- What Will Further U.S. Dollar Weakness Do To Stocks?
- With Interest Rates Bouncing, What Do We Do With Bonds?
- The Consumer Staples Trade and Coca-Cola
- Gold Miners and Other Metals
- Will Developed Markets Catch Up With Emerging Market Stocks?
- U.S. Small & Micro-Caps vs U.S. Large-caps
- What Does This Strength In Transports Mean?
In honor of Superbowl 50, we created a countdown of what we consider to be the most important 50 charts in the world. These include U.S. Stocks and Sectors, International Indexes, Currencies, Commodities, Interest Rate Markets and Global Intermarket relationships. Some of these are more actionable than others, but collectively I think they truly tell the story of global market risk, or risk aversion for that matter.
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Here is the video in full (audio begins immediately, video gets going after 30 seconds)…..Enjoy! [Read more…]
This week I sat down with Frances Horodelski over at Business News Network to discuss the disastrous implications of a breakdown in the Dow Jones Industrial Average below last week’s lows. Apple continues to be a ‘sell on any strength’ stock and an inversion of the yield curve is likely to come next year.
Here is the video in full: [Read more…]
One of the recent developments that we’ve been noticing is the outperformance out of the Dow Jones Transportation Average over the past week or so. We’ve been hearing all year about the Dow Transports struggling compared to some of the other major stock market averages. At the beginning of the month, the Dow Jones Industrial Average was up over 2.5% while the Transports were negative Year-to-date. Where markets close at the end of the year is a number completely arbitrary, so discussing year-to-date returns is one of the more useless exercises performed by market participants and market watchers. But regardless, the headlines were mostly about the Transports underperforming. Not only has this flipped over the past week or so, but bigger picture all the Transports do is outperform. Since 2012, it’s not the DJ Industrials that are leading, it’s the DJ Transports.
Since the Fall of 2012, the Dow Jones Transportation Average has more than doubled the performance of its Industrial counterpart. Here is a comparison chart showing the Transports up over 80% during that time while the Industrials couldn’t return half that:
More importantly, in my opinion, the ratio between the two has been trending beautifully within a very well-defined uptrend channel. The year-to-date headlines don’t tell the whole story. It’s not sexy. But all we’ve seen this year is a tiny correction in the ratio towards the lower of the two parallel trendlines. A buying opportunity is what it looks like from here:
So don’t worry so much about arbitrary year-to-date numbers. They really mean absolutely nothing when it comes to supply and demand dynamics. I think this outperformance out of the Transports should continue. I don’t like to fight the primary trend, that’s Dow Theory. Charlie Dow knew what he was talking about 120 years ago. Who are we to dismiss him?
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Tags: $DJIA $INDU $DIA $YM_F $TRAN $IYT $DJT $DJI
On Friday morning I was over at the Wall Street Journal chatting with Paul Vigna about the major US Averages. As you guys know, I haven’t exactly been a huge fan of the indexes for some time, particularly the smaller caps. I still think a bearish to neutral stance will continue to work over the short-term. The 3rd quarter brought big losses to a lot of names, a majority of stocks in fact. So looking elsewhere has definitely worked, and I haven’t seen any evidence yet to suggest changing that approach:
Here is the video in full:
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Tags: $SPY $IWM $SPX $MDY $DJIA $INDU $ES_F $NYA $RUT $DIA
One of the more interesting developments since March began has been the severe underperformance out of the small-cap stocks. Coming into the week, the Russell2000 was actually in negative territory year-to-date. This compares to the large-cap S&P500 which is up 7% for 2014 and Dow Industrials up over 3%. This is a big difference. But the problem is what’s happening behind the scenes to this former leadership group.
Here is a chart of the Russell2000 relative to the Dow Jones Industrial Average. After really leading the way off the 2008/2009 bottom in US Equities, this ratio has potentially put in a deadly failed breakout:
I recall earlier in the year, this “breakout” was getting a lot of attention, especially from the bulls. But in recent months, these guys have been crushed on a relative basis. Since the March 3rd closing highs, the Russell2000 is down 5% with the Dow Jones Industrial Average up over 5% during the same period.
Look at the 2006 and 2011 highs in the ratio serving as important resistance. It looks to me like the ratio is failing hard to stay above those highs. As we know, from false moves come fast ones in the opposite direction. So unless this ratio can get back above 69, the benefit of the doubt has to go to the bears on this one.
As far as market implications go, we want to see leadership out of the small-caps for evidence of risk appetite. We’re seeing some other divergences in the Bond market warning of the same thing. Seasonal studies suggest a week period for Stocks with higher volatility (see here). So this shouldn’t really come as much of a surprise.
I think a more neutral stance in stocks as an asset is likely to be the better position for the rest of the summer. We have some strategies in order to execute that (see here). So I’m going to continue to be cautious with small-caps, particularly on a relative basis. And this recent development to me is just another feather in the hat for the bears, at least for now.
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Tags: $IWM $RUT $DJIA $DJI $INDU $DIA $YM_F $SPY
We do a lot of intermarket analysis on a day to day basis either for confirmation or to look for divergences. One of my favorite ways to gauge investor risk appetite is to follow a ratio between Junk Bonds and Treasury Bonds. If there is a real demand to put risk on the table, I want to see flow into Junk outpace that into Treasuries. If managers are worried, you would expect money to be allocated towards risk-free government debt at a faster rate than Junk Bonds.
Today we are taking a look at the Junk to Treasury bond ratio ($HYG vs $TLT) hitting a new 52-week low this week while the Dow Jones Industrial Average hits new all-time highs. We want to see the bond market confirming the action in stocks, not diverging by this much. The bond market is giving us a much different message:
There is an old saying on The Street that the bond market is smarter than the stock market. I don’t know if that’s true or not. I like to think so. But what’s more important here in my opinion is that one is not confirming the other. The flow into risk-free government debt is really outpacing the flow into the riskier Junk Bond market. That’s not a good sign of risk appetite, at least not to me.
The trend in this ratio is still lower. We’re hitting fresh 52-week lows this week as the headlines read, “Dow Jones Industrial Average Hits Another Record High”. Remember the market is not 30 stocks. There’s a lot more going on here. I’m sticking with a cautious stance in US equities as a group for a lot of reasons. There are some individual less correlated stocks out there that I would prefer to be in if we have to be in stocks. Pairs are also a valuable tool that allows us to maintain an equities neutral position.
This is a bearish time of the year. So this makes sense to us from a seasonal perspective as well. Feel free to read some of my recent posts about stocks:
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Tags: $DJIA $INDU $YM_F $HYG $TLT $JNK $ZB_F $TNX $TYX $IEF
This is a topic that’s been brought up plenty throughout the financial media and blogosphere recently. Money has been flowing into large-capitalization names, more specifically the Mega-caps, and out of the small and micro-cap stocks. We see this developing more and more every day. It’s been one of the reasons that I’ve maintained a bearish/neutral stance for the US Stock Market Averages throughout this entire year.
But what do the statistics actually tell us about this money flowing up-cap? I sat through a great presentation on Thursday given by Piper Jaffray Managing Director and Technician Craig Johnson, CFA, CMT. This divergence is one of the reasons he mentioned why he’s bearish over the 2nd and 3rd quarters of this year:
“The continued divergence between the Russell2000 index and the popular large-cap indices (DJIA and SPX) is a clear indication of weakening breadth and slowing momentum, and suggests investors are making an attempt to reduce portfolio risk by rotating assets toward the traditionally defensive area of the market.
To gauge the size of a possible decline we have identified years where the DJIA outperformed the RUT (a strong possibility for 2014), and measure the size of the market pullbacks that occurred in these years…..Thus, should the median pullback unfold this year, it would suggest a deeper correction in the broader market back towards 1,600-1,650 on the S&P500 Index.”
Craig Johnson also noted that a lot of these years where we saw the mega-caps outperform small-caps were also mid-term election years. Historically, the stock market struggles during the 2nd and 3rd quarters in mid-term election years. So from a cyclical perspective, a continued market correction makes sense.
When we’ve seen these divergences, the S&P500 declines by 18% on average. The median decline under these circumstances is over 12% and they tend to occur over the course of several months. Right now the generals are the ones holding up the best. They’re the last ones standing as money managers use them as a place to hide. I think this an unsustainable trend and we’ll see them also correct soon enough.
As far as the small-cap underperformance that we’re seeing, I would also expect that to continue. From a seasonal perspective, small-caps tend to underperform during the Summer and early Fall. My friend Jeff Hirsch, author of the Stock Traders Almanac, put together this seasonality chart of the Small-cap Russell2000 vs the Large-cap Russell 1000. Notice the upcoming seasonal weakness in this ratio:
“When the graph is descending, big blue chips are outperforming smaller companies; when the graph is rising, smaller companies are moving up faster than their larger brethren.”
The Informed Investors May 2014 (Piper Jaffray)
Tags: $IWM $RUT $IWB $SPY $SPX $ES_F $DJIA $INDU $DIA $YM_F
It’s nice to be back in New York City after spending some time in Las Vegas for this year’s SALT Conference. I really find it helpful to spend some time away from the market and reevaluate everything that I’ve been thinking over the past few months. This is a very undervalued exercise in my opinion.
Over the last week I’ve been able to listen to and chat with some of the smartest minds in the game. I’m not here to name drop, but let’s just say the trip was a real treat for me. Some of the people I was chatting with are guys that I’ve looked up to for most of my career. It gave me an opportunity to think about a lot of things.
As you guys all know we came into the year very bullish about the bond market and didn’t see the point in buying stocks. The risk/reward just wasn’t in our favor. In December, you couldn’t find a single bond bull out there. Now, you’re hearing a lot more bullish chatter. This is one of the reasons I think bonds are due for a little bit of a break, at least temporarily. We also came 50 cents from our target in $TLT last week, so it’s not like we haven’t gotten a great move already. The risk/reward now is no where near as favorable as it was coming into 2014. The secret is out.
In terms of commodities, this has really been the big winner this year, especially in the agricultural space. For now, looking at $DBA for example, we probably only want to be long that space above it’s 50 day moving average. The risk/reward up here, as far as an entry point in concerned, isn’t a favorable one.
In the metals space, I still really like Palladium. Coming into the year, I called this my favorite chart in the world. So far up 15% year-to-date I see no reason to change my opinion. I like it on an absolute basis, but look at it compared to the other metals. It’s so much better than the rest of them that it’s a joke. Look at a longer-term chart.
When it comes to Gold and Silver, we’ve seen a nice tight consolidation over the past few months. I would wait for a resolution before making any commitments, but gun to my head it probably breaks lower for a retest of that 1180 in Gold. A breakout above 1315 would be a positive. So we’ll wait and see.
Back to the stock market real quick, I get asked all the time what my catalyst is to send stocks lower. My argument has been and still is that stocks have already been correcting. The S&P500 and Dow have been correcting through time rather than price (which is still a correction fyi), but the small caps and microcaps have been getting destroyed. If you recall, these were the former leaders.
The money flow also worries me. Money is flowing into value and out of growth for the first time since Fall of 2008. We’re seeing them buying the Treasury Bonds at a faster rate than the Junk Bonds; another problem. If participants are buying stocks, they are usually also buying junk over government debt. As mentioned earlier, money is flowing into Large-caps faster than Small-caps; another problem. Microcaps are down 12.5% since March.
The list of new 52-week highs on the NYSE continues to deteriorate. This is a “market of stocks”, after all. If S&Ps are going higher, you want to see broadening participation, not weakening. Every time S&Ps make a new high, fewer and fewer names are hitting new highs.
Another problem I see for stocks in the potential for a monster rally in US Dollars. I was talking a lot about that before I left for Vegas. While I was out there, I tried to mix this in to a lot of my conversations. I came out of this trip with confirmation that nobody expects a rally in US Dollars. This sentiment is not just anecdotal, but the data confirms it as well. The catalyst looks to be the Euro. Remember the Euro represents a majority percentage of the US Dollar Index. As $EURUSD rolls over at this 6-year downtrend line, it puts buying pressure on the Dollar index. Think about it, if US Dollars explode here, it probably means stocks are getting hit simultaneously.
These are some of the things that have been on my mind over the last week. I’ve really been doing some reevaluation of everything I’ve been thinking so far this year and wanted to share some of this stuff.
What are you thinking here?
Tags: $XLF $IVW $IVE $TLT $TYX $TNX $SPY $RUT $IWC $RUT $IWM $INDU $DBA $GC_F $CCI $UUP $DX_F $EURUSD $FXE $GLD $SI_F
One of the things that we like to focus on at our shop is the seasonality of the marketplace. There are several cycles that we look at including the 1-year stock market cycle, the Decennial Pattern and the Presidential Cycle. We’ll also like to take all of that information and put together an aggregate of the 3 charts to give us a road map for the year. It doesn’t always work to perfection, but it doesn’t have to. I actually tend to pay more attention when the market bucks the traditional seasonal trends. It’s during those times that we see there are larger forces at work.
Anyway, today I wanted discuss the Presidential cycle and the sixth year in particular. Generally, the mid-term election years generate some of the worst returns of the 4-year cycle. But during a President’s 2nd term, the statistics actually turn much more positive. My friend Jeff Hirsch over at the Stock Traders Almanac put out a great chart this week on this topic. If you don’t have the almanac on your desk, in my opinion you’re only cheating yourself. Here’s what Jeff had to say:
“Prior to President Obama, there have been seven previous presidents that served a sixth year in office since 1901; Presidents Wilson (1918), Roosevelt (1938), Eisenhower (1958), Nixon (1974, resigned after completing more than half the year in office), Reagan (1986), Clinton (1998) and G.W.Bush (2006). President McKinley was elected to a second term, but was assassinated in his fifth year in office. Sixth years are also midterm years, however in these past seven midterm years the market fared much better. In the following two charts the one-year seasonal pattern for Sixth years is compared to all midterm years and 2014 year-to-date.”“DJIA and S&P 500 averaged 14.3% and 14.8% respectively in Sixth years and only 1974 was negative. However, in typical midterm-year fashion, the bulk of these gains were delivered in the fourth quarter of the year, on average, while chopping trading was the norm during the first three quarters.”
I think this is a really interesting pattern. From a cyclical perspective, the best years of the presidential cycle tend to be the last 2; the Pre-Election Year and the Election Year. But the gains historically start coming in towards the end of the Mid-term Election year. I think it’s fascinating how in the 6th years, this mid-term fourth quarter rally becomes even more impressive. In addition to the presidential cycle, the 5th year of every decade happens to be the best one of the Decennial Pattern, by far (see here). So although I’m not thrilled about the stock market right now, I can see how any dip or sell-off we might have could potentially be a tremendous buying opportunity down the road. Historically some major bottoms have been put in during mid-term years.
We will continue to take things one day at a time and constantly weigh all of the evidence. I personally don’t care in which direction the market moves, I just want it to move. We will continue to look for good risk/reward opportunities whether it be in the stock market, bond market, commodities or currencies. It really doesn’t matter to me, I treat them all the same. Right now, a more neutral or bearish stance in US Stocks still seems to be the most appropriate. If the data changes, we will adjust that strategy accordingly.
Go get ’em!
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Tags: $DJIA $INDU $DIA $YM_F $SPX $SPY $ES_F
Dow Theory is the grandaddy of all technical analysis. Back in the late 1800s, Charlie Dow did not think of his “theory” as a forecasting tool for the stock market, or even as a guide for investors, but rather as a barometer of general business trends. The basic principles of the theory, which were later named after him when he died, were all laid out by him in the Wall Street Journal.
There are a 10-12 basic tenets of Dow Theory, depending on who you ask. Some of these include the fact that the market averages discount everything, stocks move in trends (Primary, secondary and minor), closing prices are the most important, etc etc. Today we’ll turn our attention to the Principle of Confirmation. Charlie Dow, referring to the Industrial and Rail Average (“Transportation” Average today), meant that no important bull or bear market signal could take place unless both averages gave the same signal (“Confirming” each other). He felt that both averages must exceed their previous peaks in order to confirm the continuation of a bull market.
The Dow Jones Transportation Average made a new high this month but the Dow Jones Industrial Average did not. This leaves a Dow Theory non-confirmation still in place:
The sell signal comes if/when both averages put in fresh closing lows. Based on the recent action, the bears want to see the Industrials and Transports both close below their February 3rd lows. This would tell us that the trend has changed. Until then, it’s more of a red flag (a big red flag).
Tags: $DJIA $INDU $DIA $TRAN $DJT $IYT