The Dow Report: Sector Watch
By Tim W Wood CPA, April 30, 2004
In recent Market Observations I have shown you how the quantification of the short and intermediate term cycles can be used to warn us of potential turn points in the markets. It was through my cycles work that I saw this weakness developing. Then, in early April I told the listeners of Financial Sense that gold was showing signs of weakness and that a correction was likely to be at hand. After turning bullish in late March I specifically told my subscribers that gold had failed when the violation at 410 occurred. This same type of analysis was also applied to the XAU, which also had shown the same signs of weakness.
This same type of analysis can also be applied to any stock, commodity, sector or index. This analysis can be applied on a short, intermediate or long-term basis. Let's apply this concept to a couple of sector indexes and see what it tells us.
The first chart below is of the Banking index. The key here, from my perspective, is to separate the cycle lows into short and intermediate term lows. The last intermediate term low in this index occurred on March 24, 2004. This is marked with a "w" on the chart below. Notice that the March 24th intermediate term low violated the early February short term trading cycle low. This is perfectly normal for a low of intermediate degree. From this low the short term trading cycle moved up into the April 2, 2004 high. The warning came when this advance failed to move back above the late February high. The confirmation of the failure came with the violation of the March 24, 2004 intermediate term cycle low. So, this indicates that the intermediate term trend for the Banking Index is now down. Also, the monthly technical picture for this index in now negative. Therefore, the trend will remain down until we see either a higher trading cycle low and/or a higher trading cycle high. Ideally, the next intermediate term low is not due until mid to late summer.
Next we have the Oil Service Index. The last intermediate term cycle low also occurred here on March 24, 2004 at 98.83. From this intermediate term low this index moved up into the April 27, 2004 high. Notice that this trading cycle advance failed to carry above the April 27, 2004 high. However, this is not necessarily bearish just yet. Actually, it would be positive for this index if we see the decline into the coming short-term low hold above the March 24, 2004 low. But, also understand that this failed short term cycle advance is a warning and this could be developing into a failed intermediate term rally just as I explained above in the Banking Index. The key here is to monitor the weekly indicators, which are now positive, and if they begin to turn negative then the odds will begin to favor the development of a failed intermediate term rally. On a shorter-term basis this index should be moving into a short-term trading cycle low. So for now I am short-term bearish on this sector with my guard up as this index could turn bearish on an intermediate term basis if the weekly indicators begin to break down. The ultimate price confirmation of a failed intermediate term rally will come with the violation of the March 24, 2004 low. Because this level is so far below current price it is important to monitor both the shorter-term technical indicators as well as the weeklies. If the weekly work were to turn negative it could mean trouble for this sector.
The next chart below is of the S&P 500 Food Group Index. The cycle phasing on this index is slightly different in that the last intermediate term low occurred here on April 8, 2004 at 188.20. From that low the story is pretty much the same. This index has rallied into a short-term high, which occurred on April 27, 2004 at 198.89. Currently, this index is also due to be moving into a short-term cycle low. Given that we just made a low of intermediate term degree the key here is to watch that low, which again occurred on April 8, 2004 at 188.20. It is also important to watch the weekly technical picture here as well. If the weekly picture should turn negative and/or we should see the April 8th low violated, then we would also have a failed intermediate term cycle advance in this sector, which would be bearish. This picture will remain positive as long as the weekly indicators remain positive and as long as the decline into the next short term cycle low holds above the April 8, 2004 low.
Next we have the S&P Building Product Index. The cyclical phasing of this index is out of step with most other indexes. For example, the last intermediate term low in this index occurred January 8, 2004 at 155.37. This intermediate term cycle advance topped out on April 1, 2004 at 183.61. We are still moving down into the intermediate term cycle low. I am currently bearish on this sector as there is currently no evidence that the intermediate term low has occurred. I will add that currently the monthly technical picture for this sector is negative.
Lastly, we have a chart of the HealthCare Index. The cyclical phasing of this index is in sync with most other major indexes. The most recent intermediate term low occurred on March 24, 2004 at 336.95. From that low this index too rallied into the most recent short-term cycle top. This top occurred on April 27, 2004 at 365.92. We are now moving into the short-term cycle low so the short-term outlook for this sector is bearish. The fact that the recent advance failed to move above the high is not in and of itself a negative because this index is coming out of a deeper correcting intermediate-term low. As with the other indexes above, the key lies in what the decline into this short-term low brings. The weekly technicals are positive at this point. The monthly technicals are negative. If the decline into this short-term low is enough to turn the weekly picture negative then we can expect a much more serious decline to develop as this would likely mark the top for the current intermediate term advance. Such a top would be followed by the decline into the next intermediate term low in mid to late summer.
Today's Sector Summary
With the exception of the S&P Building Product index these sectors are generally in sync with the cyclical phasing of the averages. This means that all of these indexes have recently made lows of intermediate degree. The banking index and as I showed you last week, the XAU has broken below their previous intermediate term lows. This then turned the longer-term picture bearish. There are currently warnings in all of the above sectors that they too could follow. The key is to watch the previous intermediate term lows in these sectors as well as the weekly technicals. If these lows can hold, then the outlook remains positive. However, should the weekly work turn negative and/or the previous lows be violated, then these sectors are also on their way down into the next intermediate term low. I also want to warn that the monthly work is currently negative for the Banking Index, the Builders Product Index and the HealthCare Index.
A Review of Our Buy and Hold Portfolio
The Advance Method Portfolio
I also want to take a quick look at our Buy and Hold portfolio that we created back in late January. This portfolio was based on Michael O'Higgins Advance method. In this method you pick the 10 DJIA stocks with the lowest book values. You then hold these stocks for one year before repositioning the portfolio. According to Mr. O'Higgins this method yielded a return of 1,283.39% between 1973 and 1991, while the DJIA itself yielded a return of 559.31%. This method clearly "Beat the Dow" in a Bull market. The purpose of this experiment is to test this method in a Bear market. I also plan to test this method by incorporating my technical methods and then creating a portfolio using these same rules once the technical picture suggests that we have seen a long to intermediate term cycle low. This has not yet occurred. We will then compare both methods in an effort to determine if the incorporation of technical indicators can be of value.
Our "Buy and Hold" portfolio is as follows:
|Walt Disney (DIS)||24.50||23.70|
|Eastman Kodak (EK)||28.93||25.94|
|Hewlett Packard (HPQ)||24.16||20.24|
|J.P. Morgan (JPM)||38.97||37.65|
|SBC Communications (SBC)||25.55||25.37|
|International Paper (IP)||41.85||40.49|
Thus far, this portfolio is down 4.48% for the year while the DJIA is down 2.26% for the same time period.
The Basic Method Portfolio
This portfolio is based on the 10 highest yielding stocks in the DJIA. Then you narrow this list down to the 5 stocks with the lowest closing prices of the 10. During the period from 1973 to June 30, 1991 Mr. O'Higgins shows that this method returned 2,819.41%. The purpose here is also to test this method in a bear market. I will also use technical analysis to time the creation of another portfolio using the same method. We will then test the technically timed portfolio against the "Buy and Hold" portfolio. The following portfolio was created in early February 2004.
|Exxon Mobil (XOM)||40.35||42.54|
|General Electric (GE)||33.18||30.05|
|J.P. Morgan (JPM)||38.92||37.65|
|SBC Communications (SBC)||25.56||25.37|
This portfolio is down 2.57% compared to 2.12% on the DJIA for the same period. All current prices in both of these portfolios were based on the close on April 29, 2004. When the technical indicators are ripe I will use these same methods using technical analysis for entry and exit.
Cycles News & Views is your source if you would like more in depth technical research on the stock market, gold, the dollar and bonds. I use Dow theory, cyclical and other technical research that I share in extensive detail with subscribers. I also provide e-mail updates and alerts as well as periodic web based commentary. I can be reached at www.cycleman.com or 318-342-9038.
Tim W. Wood
© 2004 Tim Wood