From the desk of Steve Strazza @Sstrazza
Last month we wrote about the lackluster move from some of the cyclical sectors off of their March lows, particularly Industrials and Financials.
We continue to see weakness out of these areas over both long and short-term timeframes as Financials are pressing on all-time lows relative to the S&P 500 and Industrials just made a fresh relative 20-year low.
In this post, we’ll take a look at these underperforming areas and share some trade ideas to express our bearish thesis.
First, let’s take a look at the long-term relative weakness we just mentioned.
Click chart to enlarge view.
Two massive tops breaking down to fresh lows. These are both secular laggards and have been for a long time.
The more recent relative weakness out of Industrials (XLI) and Financials (XLF) can also be seen quite clearly by analyzing their Sector SPDR charts vs the S&P 500 (SPY) on an absolute basis.
XLI and XLF were both barely able to retrace 38.2% of their recent drawdowns. Prices took a shot at these retracement levels on several occasions since early April but were met with selling pressure and failed each time. Also, notice the slightly higher/ lower lows in these two sectors over the past month even as the S&P has been grinding slowly higher.
As you can see, the performance of these sectors is not even close to that of the S&P which retraced almost exactly 61.8% of its recent drawdown. With that said, SPY is currently struggling at this logical level of overhead supply. We’re watching this closely as a bearish engulfing candle occurred at this level yesterday and looks as though this short-term reversal pattern is being confirmed with downside follow-through today. We’re not just seeing this pattern in the S&P but in all the major US Indexes.
If the overall market is to correct in the coming weeks/months, we want to bet against the areas that lagged off the lows as they are likely to see more downside than those areas that have shown relative strength. Conveniently, these same areas are also long-term laggards which simply adds to our conviction on the short side.
The bottom line is as long as prices remain below these key retracements, we believe the risk is to the downside in all three of these ETFs.
Before we dive into some fresh short setups in these sectors, make sure you check out our recent trade ideas on this same theme from a few weeks ago. We still like most of these setups.
Caterpillar is one example, which we continue to like short below 113 with a 1-3 month target at 80.
Next is General Electric (GE) which recently sliced beneath support at its Financial Crisis lows near 6. Prices are currently trading at fresh 28-year lows.
On a relative basis, things look even worse as GE just plunged to an all-time low vs the S&P 500. We want to be short below 6 with a 3-6 month target at 1990’s low just above 4.
This is definitely one of the weakest stocks within Industrials as the long-term relative underperformance is far worse than that of XLI vs SPY. A major downtrend resolving to new lows on both a relative and absolute basis. This is exactly the kind of setup we look for.