Monday Morning Outlook: Can Stocks Take Out Their Looming 2011 Peaks?
With correlation on the decline, stock-picking is back in 2012
by Todd Salamone 2/18/2012 9:15 AM
It was a positive week for U.S. stocks, even after German Finance Minister Wolfgang Schaeuble finally decided to tell everyone how he really feels about Greece. Traders did keep a wary eye trained on the tug-of-war overseas, with euro-zone finance ministers slated to meet on Monday to discuss the next move on a Greek bailout. It was hard to get too concerned about the intra-euro bickering, though, when the week's slate of domestic data included a four-year high in the NAHB housing index, and a four-year low in weekly jobless claims. In fact, by the time Friday rolled around, the Dow Jones Industrial Average (DJIA) and Nasdaq Composite (COMP) both rallied their way to new multi-year highs.
On the other hand, notes Todd Salamone, several other equity benchmarks -- including the S&P 500 Index (SPX) -- finished the week just shy of their 2011 highs. While a retreat from these potential resistance levels is possible, Todd notes that previous pullbacks in 2012 have proven to be buying opportunities. (And, as an added bonus, portfolio protection got a lot cheaper last week.) Meanwhile, Rocky White cheers the resurrection of the stock picker, as correlation has dropped significantly from last year's lofty peaks. To help get you back in the stock-picking spirit, Rocky presents a list of the market's notable year-to-date leaders and laggards. Finally, we wrap up with a preview of the major earnings and economic events for the week ahead, as well as a few sectors of note.
Notes from the Trading Desk: VIX Decline Closes the Volatility Gap
By Todd Salamone, Senior VP of Research
"Hitting our radar last week was fresh evidence of optimism creeping into the market, right as the S&P 500 Index (SPX) and the S&P 400 MidCap (MID) approached their 2011 resistance levels in the 1,350 area and the 1,000 millennium mark, respectively. With key equity indexes lingering near resistance, these bullish headlines suggest we could be ripe for a pullback -- or, at the very least, continued choppiness in the days ahead... With portfolio insurance relatively expensive -- and thus unattractive for some hedge fund managers looking to put cash to work -- and the SPX and MID trading just below former resistance, the near-term price action may not be as rosy as the past several weeks. But pullbacks should continue to be viewed as buying opportunities, as considerable cash remains on the sidelines."
- Monday Morning Outlook, February 11, 2012
During the past couple of weeks, we have been leaving open the possibility of a choppy phase, or pullback, and suggested to you that any such pullbacks are buying opportunities. Our short-term caution was driven by major indexes and exchange-traded funds (ETFs) trading just under significant resistance levels, with the exception being the PowerShares QQQ Trust (QQQ - 63.43). Coincident with this move up into potential resistance, we observed some anecdotal optimism entering the market -- but also warned that optimism within the context of strong price action is not as meaningful as optimism amid weak price action. Moreover, portfolio protection was becoming more expensive relative to actual volatility, which we thought might slow down the accumulation of equities among hedged players.
As you can see on the 30-minute graph of the S&P 500 Index (SPX - 1,361.23) below, which dates back to Jan. 9, a pullback of note has not occurred, with the biggest drawdown being the 2.5% decline in the last week of January (circled). And up until Thursday's impressive advance, the SPX had indeed chopped around between 1,340 and 1,355 throughout the first half of this month. But overall, it has been an uptrend in 2012, rewarding investors with a time frame of more than a few days, who have held long positions through the late-January "mini-pullback" and the choppy phase in the first half of this month.
As we head into the long Presidents Day weekend, the SPX is trading just 2.38 points below the 2011 closing high of 1,363.61 and 9.35 points below its 2011 intraday high of 1,370.58. These are levels many chart technicians will be keeping an eye on, as they could represent another speed bump. Also of note, per the chart below, is the fact that the SPX enters the week just 1.3% above its one-year return, as the lows of this past week were contained around its one-year breakeven level. But as we move into the holiday week, this one-year breakeven will move lower due to the pullback that occurred last year, with 1,306 representing the SPX's one-year breakeven return as of Feb. 24.
Meanwhile, the Russell 2000 Index (RUT - 828.68) is within striking distance of last year's highs in the 860 area, while the S&P 400 MidCap Index (MID - 984.60) is just below the all-important 1,000 millennium level, which marked its peak last year.
It is obvious that the slightest of pullbacks have represented buying opportunities going back to mid-December, and it is our opinion that it is the result of hedge fund managers, who were underweight coming into this year, putting cash into equities.
While they took a brief pause a few weeks ago, our analysis of options data suggests that they are back in equity-accumulation mode, despite the expensive portfolio insurance that we discussed last week as a possible deterrent to hedged buyers. As a side note, portfolio insurance became cheaper this past week, as SPX historical volatility was flat, while the CBOE Market Volatility Index (VIX - 17.78) decreased 14%, closing the gap between implied and historical volatility on the SPX.
Evidence of this accumulation is seen in the advance in the 20-day combined buy-to-open put/call volume ratio on the SPDR S&P 500 ETF Trust (SPY), iShares Russell 2000 Index (IWM), and PowerShares QQQ Trust (QQQ). A slight roll-over in this ratio preceded the minor pullback in late January, but the ratio has turned higher once again. We continue to pay close attention to this indicator, as fund managers can change their views on a dime.
For new readers, hedge fund managers will buy ETF puts to hedge long positions they are accumulating. Given hedge funds are a driving force in this market, we have found that when put buying picks up in major ETFs, the market has enjoyed its best days since the 2009 bottom.
We are keeping a close eye on the decline in VIX futures call buying, though, per the chart below. Hedge fund managers can use VIX calls as another method to hedge long equity positions, and the rate of call buying has declined significantly. This could quickly reverse, but our take is that not as many hedge fund managers are in accumulation phase relative to the beginning of the year, though enough hedge funds remain bullish to keep the overall trend intact.
With the plunge in the VIX this past week, now is a good time to replace portfolio insurance that expired last week. Our outlook remains bullish, although the SPX has speed bumps just overhead. Use pullbacks as buying opportunities and remain long stocks that are working for you.
Indicator of the Week: Stock Picking Is Back in 2012
By Rocky White, Senior Quantitative Analyst
Foreword: In September, I wrote a column entitled "Death of a Stock Picker?", which was about the high correlation of stocks with each other. In other words, there was no use in trying to pick winning or losing stocks, because they were all going in the same direction. As a result, I suggested we might all want to become macroeconomists. Well, things have changed, and that's good news for all of us stock pickers. Correlations have fallen significantly this year, indicating it might be time once again to utilize our stock-picking prowess.
Correlation Measures: To show you what I'm talking about, below are a few charts that measure correlation. The first chart simply shows the average correlation of the S&P 500 stocks to the S&P 500 Index (SPX). A correlation of 100% means they move exactly alike. Notice in 2011 this number peaked around 90%, and spent most of the year above 80%. In 2012, it has fallen off a cliff, and currently stands around 43%.
Another, more intuitive way to gauge correlation is to simply look at the percentage of stocks that move in the same direction as the market. This time I used all stocks in our database. The chart shows how many stocks moved in the same direction as the SPX on a daily basis over the last 20 trading days. The current reading is right around 60%, which is near the lows over about the last decade.
While 60% is low during recent times, it's actually quite high when you look over a longer time frame. The chart below shows the reading hovered right around 50% for 20 years before it began rising during the tech boom of the late 1990s, and then moved to a permanently higher plateau after 2000.
Best & Worst Stocks So Far: Now that it's a stock-pickers market, I figured it would help to see what the best and worst stocks have been so far this year. Below are the 25 best and worst stocks in 2012, among all equities that are at least $10 per share, and have traded at least one million shares per day.
This Week's Key Events: Home Sales, Blue-Chip Earnings on Deck
Schaeffer's Editorial Staff
Here is a brief list of some of the key events this week. All earnings dates listed below are tentative and subject to change. Please check with each company's respective website for official reporting dates.
Monday
- The market is closed Monday in observance of Presidents Day.
Tuesday
- There are no major economic reports on Tuesday. On the earnings front, we'll hear from Dell (DELL), Home Depot (HD), Wal-Mart Stores (WMT), Kraft Foods (KFT), Macy's (M), Barnes & Noble (BKS), Brocade Communications (BRCD), Cheesecake Factory (CAKE), Chesapeake Energy (CHK), Dollar Thrifty Automotive (DTG), Hecla Mining (HL), Medtronic (MDT), RadioShack (RSH), Saks (SKS), and Walter Energy (WLT).
Wednesday
- Wednesday's calendar features the latest data on existing home sales. Quarterly earnings are due out from Hewlett-Packard (HPQ), Analog Devices (ADI), Angie's List (ANGI), Boston Beer (SAM), CardioNet (BEAT), Clean Harbors (CLH), Dollar Tree (DLTR), Express Scripts (ESRX), Fluor (FLR), Garmin (GRMN), Limited Brands (LTD), MGM Resorts (MGM), NuVasive (NUVA), Onyx Pharmaceuticals (ONXX), Questcor Pharmaceuticals (QCOR), Skullcandy (SKUL), and Toll Brothers (TOL).
Thursday
- On Thursday, we'll hear the usual report on weekly jobless claims, along with the holiday-delayed update on domestic crude inventories. Also on tap is the FHFA housing price index. The day's earnings docket includes reports from American International Group (AIG), Autodesk (ADSK), Coeur d'Alene Mines (CDE), Deckers Outdoor (DECK), Foster Wheeler (FWLT), The Gap (GPS), Hormel Foods (HRL), InterDigital (IDCC), Kohl's (KSS), Marvell Technology Group (MRVL), Molycorp (MCP), OfficeMax (OMX), OmniVision Technologies (OVTI), Salesforce.com (CRM), TiVo (TIVO), and Trina Solar (TSL).
Friday
- The week wraps up on Friday with the final Thomson Reuters/University of Michigan consumer sentiment index for February, as well as new home sales data. The earnings calendar concludes with results from Alpha Natural Resources (ANR), Cyberonics (CYBX), E.W. Scripps (SSP), Interpublic Group (IPG), J.C. Penney (JCP), Newmont Mining (NEM), and Washington Post (WPO).
And now a few sectors of note...
issecting The Sectors
Sector Utilities
Bullish
Outlook: The positive momentum in the utility sector has dimmed lately, as this traditionally defensive group has cooled its heels amid strength in the broader equities market. However, within the context of the longer-term uptrend in the PHLX Utility Sector Index (UTY), pullbacks like the one we're seeing now are not unusual, and we would view these dips as buying opportunities. In fact, UTY recently found support in the $455 area -- a site of former resistance in mid-2011 -- and now seems to have established a foothold atop the round-number $460 level, as well. In addition to the sector's solid long-term technical performance, utilities offer attractive capital appreciation potential, as well as appealing dividend yields (with a number of sector components going ex-div this month). As a result, we view utility stocks as a nice complement to a portfolio that consists of some other names deemed as more "risky." Meanwhile, despite the technical and fundamental appeal, there's still a healthy amount of skepticism surrounding these stocks. We typically don't see this group mentioned in articles that advocate high-yielding stocks, and many analysts remain on the sidelines. Within the utility sector, Southern Company (SO) remains a standout, and the stock's pullback to support in the $44 area could lure a few cautious buyers in from the sidelines.
Sector Leisure/Retail
Bullish
Outlook: The trend of improving jobs data has continued, with January payrolls surging impressively, and the unemployment rate pulling back to its lowest point in nearly three years. Just last week, initial jobless claims retreated to a four-year nadir, while consumer-level inflation remained relatively tame -- pointing to an improving fundamental backdrop for the U.S. consumer, and, by proxy, consumer discretionary stocks. On the charts, the SPDR S&P Retail ETF (XRT) remains a technical outperformer, despite a less-than-stellar report on January retail sales. XRT notched another week of impressive gains, with the fund extending its lead above formerly staunch resistance at $54, and setting a new all-time high of $58.92. For those seeking a bullish play in the retail/leisure space, we recommend focusing on stocks in solid technical uptrends that are surrounded by skepticism. A few of our current favorites include retailers AutoZone (AZO), Advance Auto Parts (AAP), and Whole Foods Market (WFM), along with restaurateurs Chipotle Mexican Grill (CMG), Domino's Pizza (DPZ), and McDonald's (MCD). With skepticism still lingering toward these consumer-dependent stocks, contrarians can continue to capitalize on situations where sentiment has yet to catch up with the bullish technical performance.
Sector Homebuilding
Bullish
Outlook: The SPDR S&P Homebuilders ETF (XHB) closed higher last week, extending its lead above former resistance in the $19.50 area. The $20 level has been acting as a bit of a speed bump lately, as this round-number area marked the fund's May 2010 peak. However, XHB closed Friday just north of this level, and still has room to rally to $23.25 -- which is half its all-time high, reached only three months after the fund was launched in 2006. Within the group, a number of housing stocks soared to new annual highs last week, lifted by a four-year peak in the NAHB housing market index. Among those names hitting fresh 52-week highs were Lennar (LEN), Toll Brothers (TOL), Meritage Homes (MTH), PulteGroup (PHM), and D.R. Horton (DHI). Despite the improving outlook for the sector, analysts remain overwhelmingly negative, with builders attracting yet another round of downgrades this past week. Plus, all of the aforementioned equities sport relatively high short-to-float ratios. Going forward, these names could benefit from upgrades or short-covering activity as the technical and fundamental performance continues to surpass the Street's low expectations.
Sector Energy
Bearish
Outlook: The Energy Select Sector SPDR Fund (XLE) has underperformed, with the security lately encountering resistance at its 52-week breakeven level. Indeed, it doesn't appear that hedge funds are particularly interested in energy stocks, as the 50-day put/call volume ratio on XLE has plunged dramatically of late. Since hedged players typically purchase puts as they're accumulating equities, it would appear that these deep-pocketed investors don't see much value in the energy sector at the moment. In fact, last Friday, the International Energy Agency (IEA) took a hatchet to its global demand forecast, and noted that the market could withstand the loss of oil from Iran. Despite these technical and fundamental issues, we've recently spotted some bullish coverage on energy stocks in the financial media -- making this a potential contrarian bearish play to watch during the near term.
Prepare for the investing week ahead. Every week, Bernie Schaeffer and his staff provide you with their insight about what has happened and, more importantly, what will happen in the market. We dig deep and show you what's happening behind the scenes, and tell you which indicators are predicting major market moves. If you enjoyed this week's edition of Monday Morning Outlook, sign up here for free weekly delivery straight to your inbox. |
