From the desk of Tom Bruni @BruniCharting
The S&P 500 has rallied more than 10% off its late December lows, making the reward/risk on the long side a lot less favorable as many of the major indexes and sectors approach overhead supply. When the market is at a point on an absolute basis where the weight of the evidence is mixed, the use of ratio charts to identify the trends that are happening under the surface becomes even more valuable.
When the market was 10% lower and there were some signs of mean reversion ahead, the use of relative strength is an obvious one.
Sectors and stocks that held up well during the correction are likely to lead, and that’s exactly what we saw from Cloud Computing, Software, and other areas of Technology that are now leading higher.
Click on chart to enlarge view.
But relative strength is just as important during times when we don’t have a directional view on the market. Flat or rangebound performance from an index doesn’t mean that there are no trends in place under the surface. This is a market of stocks, so regardless of what the indexes do, there are opportunities on both sides of the tape if you take the time to look.
A great example of this is Smallcap Consumer Discretionary stocks breaking out of a multi-year base relative to the overall market-cap segment. Not only is this another piece of evidence that we can use to mold our overall market view (that’s a +1 for risk appetite), but it’s also a pairs trade that can be put on and taken advantage of directly.
We look at a massive number of charts every week, including 500 ratios just like these to help find trends that are informational and/or actionable, regardless of the market environment.
There’s a lot of mixed evidence out there right now. Bonds, Yen, and Precious Metals are not giving back much despite the rally in stocks and Oil, yet aggressive areas like Smallcaps, Discretionary, Technology, etc. have led this rally off the lows and continue to act well.
Based on the mixed bag we have today, it’s unclear how the major indexes will ultimately resolve themselves. But by consistently identifying the strongest and weakest areas of the market, we can continue to take advantage of the trends that are in place now and know how we can position ourselves one way or another when this period of indecision resolves itself.
Thanks for reading and let us know your thoughts!