P/E’s … or A/D’s? P/E’s, even we know, are a measure of valuation

DJIA:  34,464

P/E’s … or A/D’s?  P/E’s, even we know, are a measure of valuation.  Of course, we contend stocks sell at “fair value” twice, once on their way up and once on their way down.  The trick is to figure out whether they’re on their way to becoming more overvalued or more undervalued.  There are, however, some historical guidelines, and there the news isn’t so good.  Like many market measures, choose the one that suits your purpose. For P/E’s, you got your trailing, you got your forward and, you have which seems most reasonable, the CAPE.  Robert Schiller’s Cyclically Adjusted P/E is the price to average real earnings over a period of 10 years.  Currently around 37, it is far more expensive than any time with the exception of the top of the dot.com bubble.  So from a funnymental viewpoint, at least one viewed through the valuation lens of P/E’s, this would seem a time for some concern.

The good news – the technicals are here to save the day.  The P/E’s may be worrisome but the A/D’s are not.  Markets get into trouble when the average stock begins to lag the stock averages.  These divergences, higher highs in the big cap averages that go unmatched by a similar high in the A/D Index, historically have preceded virtually every important market decline, and most lesser ones as well.  The Advance-Decline Index just surpassed its peak of May 7, leading rather than lagging the averages.  Looking at this measure from a different perspective, there was a 2-to-1down day last Wednesday, and the 6-to-1 down day on the CPI news.  Both were followed by positive up days – positive Dow days and positive A/D‘s as well.  Even in the very short term, no divergences, no weak rally.  Weakness happens, it’s part of the whole thing, it’s something that alone doesn’t change the trend.  If followed by a weak rally, that’s different.

Thinking about buying a little Microsoft to hedge your commodity holdings?  We still favor the re-open/reflate, cyclical/commodity trades.  They have, however, stalled a bit of late.  There is the threat of Iran coming back online hurting Oil, and China leaning on commodities generally.  Given the news backdrop, it’s impressive the stocks haven’t given up even more, especially after their run.  A good guide here might be the Dow transports.  They had a down week last week for the first time since early February.  A drop below the 50 day – around 265 – in the IYT ETF (275) would be cause for concern.  Meanwhile, after a few poor rally attempts many of the Techs have improved – stocks like Microsoft (249) and Adobe (498) fall into that group.  The stay-at- home variety of Tech is a different story.  The semi’s are a house divided, with equipment makers like Applied Materials (138) better than the rest.

An area we haven’t given its due is healthcare.  Many stocks here are acting well, virtually all are acting better.  Healthcare typically isn’t concerned with inflation or rising rates, and for the most part are consistent growers – a compromise in the growth/cyclical debate.  To look at the hospitals like Tenet (66) or Universal (159), they seem to be out of the pandemic woods and then some.  The same can be said of stocks like UnitedHealth (413) and Centene (74). The Healthcare Providers ETF (IHF-271) pretty much covers you there.  Then there is the SPDR Healthcare ETF (XLV-123) which includes UNH and many of the major pharmas.  Johnson & Johnson (169) is nearly 10% of the ETF.  Teladoc (149) is among the top 10 holdings, but not one of our favorites. Down about 50 percent, it’s also one of the top holdings of Cathie Wood who continues to add to her position.

Don’t fight the Fed, don’t fight the tape, don’t fight the A/D’s.  The average stock matters more than the stock averages.  For all the jockeying around between growth and cyclicals, most days most stocks go up – not how markets get into trouble.  The market has had a couple of days of selling, but has come right back.  It’s a perverse way to look at things, but we are impressed when the market has a chance/excuse to go down, and does not.  The market hasn’t had a 5% correction in six months, one of the longer such streaks.  This may seem a concern, but these periods more often are followed by choppy action rather than weakness.  Choppy seems a good description of what we’ve seen lately.  It’s summer and probably a good time not to expect too much or push too hard.  Don’t forget gold and silver.

Frank D. Gretz

Click to download

The trend is your friend … provided it’s an uptrend

DJIA:  34,021

The trend is your friend … provided it’s an uptrend.  We always contend the easiest way to make 50% trading is to trade a stock that doubles.  Sure investing in those stocks would have done a little better, but that misses the point.   Being on the right side of the trend is the easiest way to make money.  As a trader, the trend bails you out when your timing is off, as often is the case.  Meanwhile trying to do that mean-reversion thing can end up more mean then reverting.  All this may be well and good, but you still have to find an uptrend and, hopefully, identify it early.  This year the easiest trend to identify has been that of the S&P itself, the easiest to trade has been the Transports – up 14 weeks in a row.  For much of the rest of the market it pretty much has been a Rorschach test.  Likely because of that, now the uptrends have come into question.

The Advance-Decline index reached a new high virtually minutes ago.  That’s not the backdrop for important weakness.  Indeed, important weakness typically only follows months of diverging action between the market averages and the average stock, that is, the A-Ds.  In April an average of 96% of the S&P component stocks were above their 200 day average, the best ever for a calendar month.  That number is consistent with a start of a bull market rather than with one’s end.  The Dow Jones hit an all-time high 24 of 87 trading days through Monday, the sixth best start to any year, another sign of great momentum.  The problem is that after four months of this kind of momentum, markets tend to cool off.  It’s not about “sell in May,” it’s about four months of this kind of strength.

Given the numbers alluded to above, you might argue the market’s problem is simply too much of a good thing.  This idea showed up again recently in terms of 12 month new highs.  Last Friday nearly one third of the S&P components reached a new high that single day.  Monday followed with another big number, even after Friday’s reading had been matched only seven other times in 20 years.  Each of those seven, however, preceded a loss over the next month, according to SentimenTrader.com.  Impressive, however, was the performance over the medium term, where there were only a few losses.  This seems to confirm the concept that impressive momentum and broad participation rarely precede large losses or bear markets.  The short term is another issue, especially against the backdrop in sentiment which is more like that at the end of a bull market.

The consequence of the Friday-Monday excess was Monday’s reversal, causing a spike in the number of stocks having a buying climax.  This occurs when a stock hits a 52-week high, and then reverses to close below a prior day’s close.  These reversals work unless they don’t, if you catch our drift, but in large numbers can be a sign of buyer exhaustion.  This, again, is short term stuff.  Together with other signs of excess, the spike in new highs and Monday’s reversal, point to a difficult short term.  Overall momentum, however, will keep the bull market intact.  As is always the case in these short term, “healthy” corrections, something comes along to make you wonder.  That seems to have been the case with Wednesday’s CPI number.  The market can live with inflation, but not inflation that will change the mind of the Fed.  The mind of the Fed and the talk of the Fed, by the way, often are two different things.

Last Friday’s employment report was said to be a sign the recovery had stalled, a sign to get back to stay-at-home/ growth stocks. Indeed, they had a great day. Almost unnoticed, however, was the re-open commodities/industrials also had a great day.  These still seem the leadership, and likely so for some time.  The recent weakness simply seems part of the market’s nature, a nature about which we warned last time.  The A-D index just made a new high, but the reality is this is a market divided, and that’s never a good thing.  To look at a chart like Nucor (101) is to look at how most of Tech used to look.  The same could be said of most Copper, Ag, Industrials, re-open stocks.  We never think of losing money as healthy, but a correction would relieve some of the excess.  Buying the dip Tuesday worked, but not so Wednesday.  That might continue for a while. The market needs time to settle and, as they say, time takes time.  

Frank D. Gretz

Click to download

Those planes and trains … they keep on trucking

DJIA:  34,548

Those planes and trains … they keep on trucking.  And, they do so with amazing consistency.  The Dow Jones Transportation Average has been up each of the last 13 weeks, a streak beyond any in recent memory.  We all know these streaks don’t last forever, and a small sample size makes it difficult to project otherwise.  This, however, may miss the point.  There may be no other group more representative of “re-opening.”  And re-opening seems clearly in the forefront of the market’s attention.  Monday’s market seemed a perfect example here, in that despite 2800 NYSE advancing issues, it wasn’t all that easy to make money.  You had to be in the cyclical, industrial, and commodity stocks, and avoid most of Tech.  Rarely do we recall a market this extreme and difficult, yet at the same time so simple.

Ask not for whom the bell tolls, it tolls for Tech.  And the bell tolled pretty loudly late last week.  All those over-owned Tech stocks reported and, with the exception of Alphabet (2325), did nothing or went down.  Our initial concern was about the market.  If it’s the market that makes the news, a market that ignores good news isn’t a good market.  There may be something to that, but more likely the good numbers are simply about why the stocks are where they are, rather than where they’re going.  That they are unlikely to go up, let alone lead, is about the market’s change in focus.  This re-opening idea isn’t just about stuff that’s heavy to lift.  After dealing with COVID for some time, hospitals now seem poised for more profitable business – see, for example, Universal Health (154) and Tenet (65).  This should also be helpful to companies providing largely ignored medical procedures, like Intuitive Surgical (836) and Edwards Life (91).

We tend to use “Tech” rather loosely, while we find Tech to be of two varieties.  There is the Tech that is out of favor for now, but not going away, and there’s the Tech that for investment purposes, could go away.  As the economy reopens, wouldn’t most go to their own doctor, or their own doctor online?  What do we know, but to look at the chart of Teladoc (151) it would seem so.  Or, for that matter, to look at the aforementioned hospital and medical device stocks, it also would seem so.  And then there’s Peloton (83).  Gyms are re-opening, outdoors is re-opening, is Peloton still a must have?  As often happens in the stock market, news follows price – the company has recalled 125,000 treadmills, citing risk of injury or death, according to Market Watch.  Then there’s Zoom Video (289). Video conferencing may be here to stay, but will we Zoom?

When it comes to this re-opening idea, there are a number of ETFs which as a group, or even individually, seem to get the job done.  Several we mentioned last time, including Materials, XLB (87), Industrials, XLI (103) and Infrastructure, PAVE (27).  Two others we might highlight are Metals & Mining, XME (45), and Steel, SLX (64).  We do so as steel has acted particularly well recently, as has ancillary stocks like Cleveland Cliffs (20) and Vale (22).  And, of course, there is an ETF for those seemingly irrepressible Transports, IYT (273).  Meanwhile, does oil know something the rest of these re-open stocks are missing?  We doubt it and, indeed, the energy stocks also have acted better.  For oil there is XLE (52) and XOP (84).  Individually, it’s a group that when they go, you can pretty much throw a dart.  Then too, hopefully our dart might land on Diamondback (82), Pioneer (164) or Northern Oil & Gas (15).

There is a cliché that comes around this time of year, one that most of us have come to hate. Then, too, there is the reality of summer months when we’ve seen the kind of four months we’ve seen.  This pattern correlates well with years like 2013 and 2017, according to SentimenTrader.com, two other years that were well-suited for trend followers of the S&P, and difficult for everyone else.  The Advance-Decline index just reached another high, and you know how we feel about that – no big problems.  Still, the market divide is a worry.  The bad have a way of dragging down the good.  The obvious excuse for any weakness is a Fed which seems awash in that river in Egypt – DeNial.  It has been suggested the next Fed appointee should be someone who goes grocery shopping.  Then, too, the Fed has little choice, as any admission of inflation would imply a need to tighten.  That’s not what the market wants to hear.

Frank D. Gretz

Click to Download

© Copyright 2021. JTW/DBC Enterprises