Published November 18, 2016
Continuing on from last week in describing the major shift in the markets post-election, we reprint below John Murphy’s article discussing some of those shifts.
DOW THEORY LOOKS STRONG… Chart 1 shows the Dow Industrials trading at a new record high today. That’s a positive sign. But so is the fact that the Dow Transports achieved a bullish breakout on Monday. That puts both Dow Averages in sync on the upside for the first time in nearly two years. Chart 2 shows the Dow Transports rising to the highest level in eighteen months. It’s still well off its early 2015 high, but it is now in an uptrend. In fact, it’s rising faster than the industrials. The TRAN/INDU ratio (top of Chart 2) is on the verge of an upside breakout of its own. That’s a sign that the transports are starting to play catch-up. The transportation rally is also broadening out to include more groups.
AIR FREIGHT, RAILS, AND TRUCKERS ARE ALSO IN UPTRENDS… I recently showed the Dow Jones Airline Index rallying to a seven month high. Other transportation groups are doing even better. Chart 3 shows the Dow Jones Railroad Index reaching the highest level in more than a year. Chart 4 shows the Dow Jones Trucking Index at a new record. Chart 5 shows the Dow Jones Delivery Services Index also in record territory. Those indexes show a lot of power behind the transportation rally. That’s also a sign of a stronger economy. Someone has to buy the goods that the transports are moving and delivering. That’s the whole premise behind the Dow Theory. Industrial companies make the goods that consumers want, while the transports move them to market. That’s why it’s a good sign when both groups of stocks are moving up together like they are now.
COPPER SURGE CONTINUES... I’ve written several recent messages on the resurgence of industrial metals like aluminum, copper, and steel, and stocks tied to them. That rally has gotten an additional boost from the Trump victory on Tuesday. Expectations for big infrastructure spending has pushed metals tied to construction even higher. Chart 6 shows the price of copper completing a major basing pattern earlier this month. The price of copper jumped 4% today which is the biggest one-day gain in three years. That also puts the price at the highest level in sixteen months. That’s obviously giving a big lift to stocks tied to copper. Chart 7 shows Freeport McMoran (FCX) challenging a flat “neckline” drawn over its late 2015 – spring 2016 highs. An upside breakout appears imminent. Stocks tied to steel are also rising strongly for the same reasons. Chart 8 shows Nucor (NUE) trading at a new eight-year high. Those stocks are giving a big lift to the basic materials sector.
ROTATION FROM GROWTH TO VALUE… This week’s market reaction to the Trump victory shows a number of significant sector rotations going on. One of the more obvious is the continued selling of dividend-paying stocks like utilities and REITs and buying into economically-sensitive groups like financials, materials, and industrials tied to construction and defense. Still another is a continuing move out of defensive consumer staples into more economically-sensitive cyclical groups like retailers. Chart 9 shows a ratio of the Consumer Cyclicals SPDR (XLY) divided by the Consumer Staples SPDR (XLP) breaking out to a new high for the year. Another rotation in process is a move out of growth stocks into value. Chart 10 shows the relative strength ratio of the S&P 500 Value iShares (IVE) divided by the S&P 500 Growth iShares (IVW). The ratio has risen this week to the highest level in nearly two years. And that may explain some puzzling moves in today’s trading. Technology is the biggest part (34%) of the growth ETF, while financials (24%), energy (13%), healthcare (12%) and industrials (11%) make up the bulk of the value ETF. That may explain why technology stocks are in the red today, while most economically-sensitive groups are in the black. Investors appear to be moving into former underperforming groups like financials, healthcare, and transports that should do better under the new administration. They also appear to be selling some of their technology winnings to do that.
When interest rates were surprisingly falling earlier in the year all things with yield – e.g. dividend stocks, utilities, real estate – were zooming higher. Now, with interest rates having markedly changed direction and now charging higher, what has happened to dividend stocks? It depends on which ones you are looking at. Banks have now resumed paying dividends after suspending them during the financial crisis. They are ramping up those dividends. Below are shown the top 5 largest dividend-focused ETFs. SDY is the cream of the crop so far this year. This is because the ETF has about 1/3 of its money allocated to financial and industrial stocks, both of which have been big beneficiaries of a rise in interest rates. Meanwhile, the bottom performer, HDV, has only 5% of its money in financials and industrials. HDV has almost 20% of its money in energy stocks whereas SDY has only 3%. These two dividend ETFs both have generic “dividend ETF” names. There’s nothing in the name to suggest the huge difference in sector allocations. Holding both of them would make sense for a dividend-seeking investor given they are almost polar opposites in their focus. Know what you’re buying!
Chart 11: 2016 performance of major dividend ETFs
Investors this week looked to build upon the prior week’s amazing post-election rally. Monday saw a quiet unchanged day in the broader indexes. However, just below the surface, interest rates jumped yet again propelling bank shares higher as money continued to move out of multinational consumer-oriented products and into cyclical construction and finance-related areas. A flip of that script occurred Tuesday with tech stocks bouncing back to join energy and consumer stocks in driving the broad market to a +0.7% gain. A strong retail sales report supported the move in consumer shares.
The same theme played out Wednesday with strength in beaten-down sectors offsetting weakness in overheated sectors and leaving markets unchanged. A powerhouse report on housing starts gave investors further impetus to bid up stocks Thursday with bond yields again rising as Fed Chair Yellen reinforced expectations of a December hike in short-term interest rates – something the market has now fully priced in. The stock market, now tying the hike in rates to expectations for higher economic growth, pushed stocks upward +0.5%. The surge higher in interest rates has sent the U.S. dollar flying upward this week with the currency adding +2% to its highest level in almost two years. That move was one of only a few stories in the market Friday as investors wound things down ahead of next week’s shortened and likely quiet Thanksgiving holiday. Stocks ended the day little changed.
Warm wishes and until next week.