Weekend Update: Kick'n the Can

DC politicians did what they do best this past week; after much hemming and hawing, Congress was able to reach a temporary solution to mitigate the rapidly approaching default limit. They just love to bicker and squabble right up to the last minute and then finally say, "well lets worry about this a little later". Neither side really gets what they want (especially the Republicans), but they appease each other for another 4 months, so they can do it all over again. We have seen this time and again, its why its so important to stick to unbiased price action and not to sensationalized media headlines. Price creates an edge in assessing the markets, news headlines do not.

After all the hullabaloo over the past month or so, Congress has extended the debt default date to February 7th and has reopened government services. Chalk up another win for Obama and the Dems. The Republicans and the Tea Party are caving in on themselves and continuing to chase the rational part of the American public over to the more moderate, Democrat side. Contrary to what financial media and Big Business likes to project, US stock markets historically perform better (on average) when a Democrat is in the White House. From my vantage point, the Republicans have NO CHANCE of taking the reins in the near future. While I don't like to discuss politics, in this case its interesting to look at historical market returns under each regime:

   The most impressive stat on this chart is the S&P returns under Clinton/Obama vs the most recent George Bush. From 1993 to present when Clinton/Obama maintained the White House, US markets are up 32.2% while from 2001-2008 under W. markets only averaged a 3.3% return. I'm not trying to show you bias or political opinion, I'm simply trying to show the facts. Going forward I highly expect Democrats to remain in power at least through the next term following Obama and that should bode well for stock returns.
Another very notable and surprising stat is that every presidential cycle grouping had a positive return except 1913-20 which was the time leading into the Great Depression. Interesting!
 One last observation from this chart, take a look at the Earnings Per Share(EPS) change in 2009-2012...Earnings for S&P500 companies are up 51% since the recession. That is a very nice economic recovery. Remember when companies make more money (increase EPS), their stock prices go up. If companies are making more money, the market is going higher.

The other most notable development that happened this week was ANOTHER NEW ALL-TIME HIGH for the S&P! While it would seem that stocks have gone up too much, or there are momentum divergences present, markets continue to shrug off negatives and press higher. A particularly bullish scenario has emerged from the government shutdown and debt issues. The shutdown has cost more money than expected and will likely hinder GDP growth for the 4th quarter. While that sounds bad for the economy, remember that the economy and stock market are not linked directly, and these economic strains are significant enough to warrant no change in Federal Reserve easy money policy. On top of that Obama has recently appointed Janet Yellen to be the next Fed Chairman following Ben Bernanke and she is known to favor his very aggressive stimulus policy. Part of the reason I believe the Democrats will maintain control of the White House for the foreseeable future is directly linked to Federal Reserve policy. A major presidential issue from the most recent elections was economic stability and one area the President of the United States has ultimate control is on appointing the Federal Reserve Chairman. If you don't think the fox in guarding the hen house, then you simply are not paying attention. Obama has made it abundantly clear that he wants a stabilized economy and higher stock market. His (forced) suggested resignation of Larry Summers (this is my own conspiracy theory, Obama has never been anywhere near publicly suggesting Summers withdraw from the chairmanship race) and his backing of Yellen shows that he wants to do everything he can to prop up the US economy and will go to lengths to show that He and the Dems are responsible for the economic stabilization post 2008. Economic recovery, being such a tipping point issue, is one thing Obama will not let slip through his fingers and has ultimate control over money printing and stimulus activity. It is my belief that the economic recovery will be enough to push the next Democratic candidate over the top in the next election (likely Hillary Clinton...Bill back in the White House? remember those S&P returns from 1993-2000? Could be an interesting scenario). Thats my two cents, but what do I know?

Getting back to those new highs! Lets look at some Sector charts to get a good perspective on where we sit currently:

SP500 daily chart

Just like AAPL last week, we talked about the change of direction of the 20 DMA. When it turns from down/flat to up it signals a fairly successful edge in expected gains for the near term. What is interesting about this move to new highs and the just now upturning 20 DMA is that they are both occurring right at the upper wedge resistance which has been a sticking point recently. While it is somewhat concerning to be right up against the upper range, it is also very interesting to me that my signals suggest buying the new high rather than selling here. My emotions and rationality says that I should be taking profits here and reducing risk, yet my signals keep popping up with new buys, not sells. It is always pleasing to me when my plan signals a buy when it doesn't seem right or comfortable to do so. But this is why we have a plan and set rules in place; to help us navigate risk/reward objectively and not let emotions dictate our decisions. It has been shown throughout time that emotions are the main reasons for losses in the market and strict systems based on technical signals have shown to outperform the "seat of your pants" strategy consistently. This setup will be interesting to watch going forward.

First the Sector groups that we are currently holding:
-Daily Charts to show breakout days

XLY

 We keep saying the same thing about Discretionary, it looks strong and is a major market leader. The recent consolidation has allowed it to cool off relative to the overall market, but is now bouncing off long term trend support while price is breaking out to new highs...This is good action!

XLK

 Talk about a breakout! Tech has really struggled all year, it has just started to show some life over the past couple months, although the last 6 weeks have been fairly meh for the group overall. Except for this week and Friday especially. VZ announced a strong quarter early in the week, AAPL is turning around and GOOG reported a blow out quarter Thursday after the close. GOOG finished the trading day Friday up $122 per share! I like tech here.

XLI

 Industrials have been a leading sector for much of the summer and helped stabilize the market through the dregs of the year. The last pullback was not too kind to the relative strength of XLI, but it is now coming right off its uptrend support and I hope to see a breakout to fresh highs soon. Pay attention to how this reacts near these levels, we would hope this short term lagging will be resolved soon. 

XLB

 The same can be said about Materials. While they have not made a new high yet, the recent correction simply came back to kiss the prior breakout level. It now seems headed back through the prior highs. This, just like XLI, will be important to watch to make sure they follow through above the highs.

XLE

Energy has turned into a monster all of a sudden. This was a huge move this past week and there is nothing to not like in this space going forward. It looks like full speed ahead!

XLV

Healthcare continues to lead and impress. XLV followed suit and broke through to new highs this week. Interesting to see so many shakeout moves before this last rally; many sectors did the same thing. But it just shows what this market is all about...Leaving people behind so they are forced to play catchup, therefore pushing the market higher. Nervous bulls get shaken out, then prices turn and rip. Awesome to see if you're on the correct side of it.

Sector groups on watch list, not currently held:

XLF

Speaking of nervous bulls, we were part of the Financial shakeout. We were squeezed out of our position only to look foolish now as XLF was the best performing group last week. That being said, we followed our plan for trend health and moved aside; the plan doesn't always work, that would be too easy. We are very close to receiving a new entry signal here should price follow through above the prior highs at $20.93. That will show that Financials are ready to resume higher. That signal will likely come early this week unless the move turns out to be false. Either way we will know soon.

XLP

Staples have been trapped in this triangle formation for months now and haven't shown any sort of strength relative to the SP500. First we would need to see a breakout above the prior high near $42, and then would need the RS trend to begin to outperform. XLP is not there yet.

XLU

Utilities present an interesting "value" opportunity here for long term investors, but based on relative strength there is still plenty of work to do. I do like the attempt to break out of this big triangle pattern, but that has not been confirmed either. Its still wait an see with XLU

Important "Risk Off" (Fear) Indicators:

TLT treasury bonds

Treasury bonds are still lagging long term and are not a buy right here, which suggests that the market rally is not over yet. However, on a short term basis, they seem to be putting in a bit of a consolidation. This would still need to break above the range highs around $108, but nothing can be seriously considered strong until the $110 level is retaken.

GLD gold

Gold and its sloppy reversal attempt are on thin ice.Relative Strength has stabilized from the free fall recently but price is sure taking its time to turn around. Nothing to be done here yet; no panic in the market.

US$ dollar

While many shorter term traders and media pundits have been talking about buying the Dollar, I have been against this for some time now. It has been a weak relative performer and seems to be breaking down from a very solid trend support. Remember that a weak Dollar is typically good for stocks and Gold, so it will be interesting to see how this breakdown turns out. A strong Dollar is also an indication of protection seeking and macro nervousness, right now we are seeing none of that.

The Most Bullish Chart of the Year...

Russell 2000 small caps

Which brings us to the most bullish chart for the market. When small cap stocks outperform, all boats are lifted and it shows strong risk appetite by investors. The Russell 2000 has been very strong this year and I see no end in sight. We will use this as a primary market health indicator going forward as it will usually hint at a problem before the larger/safer stocks will. When trouble comes investors will dump the highest risk positions and take profits on their biggest winners. The Russell will be one of the first to show this type of change.


That's it for this week All. Next week I will run through all our stock positions and talk about how those look post breakout.