Thursday, February 3, 2011

TheTechnicalTake: EEM and IYT

Lately, I hate to bring up any data point or indicator that is contrary to the market moving higher because nothing (and I mean nothing) has made a damn bit of difference to the constant and persistent march of the major equity indices moving upward over the past 4 months.  Breadth divergences.  Don't work anymore.  Sentiment. Who cares?  Inflationary headwinds.  We don't have inflation.  You get the picture.  But being the hard headed soul that I am, I thought I would try again. 

Two key sectors -- emerging markets and the transports -- are lagging the major equity indices.  Normally, I would point these things out because they matter, but as we know, of late nothing matters (and I mean nothing).  Maybe "this time will be different" and these noticeable negative divergences are actually "telling" us something important.  Now that would be something new!

Figure 1 is a weekly chart of the iShares DJ Transport Average Index Fund (symbol: IYT).  The indicator in the lower panel measures the number of negative divergence bars (i.e., the price bars marked in pink) over the past 13 weeks.  As I have discussed many times before, a clustering of negative divergences are typically seen at market tops like those seen on the chart in 2006 and 2007.  Negative divergences are a sign of slowing upside momentum, and the trend line break is appreciated.  The bottom line: the transports are under performing and likely to head lower.

Figure 1 IYT/ weekly

Figure 2 is a weekly chart of the iShares MSCI Emerging Market Index Fund (symbol: EEM).  Once again, the trend line break is noted.  The indicator in the lower panel is a relative strength indicator, and this is diverging negatively ever since the cluster of negative divergences back in late 2010 (as noted by the oval on the chart).  In any case, the EEM is under performing.

Figure 2. EEM/ weekly

Now we can put our thinking caps on and surmise why this is happening but such thinking would be dangerous to your bottom line.  For the transports, I suspect rising oil prices will exert pressure on this sector.  That's my bet.  Emerging markets are seeing political turmoil (good for oil) and inflationary pressures.  But like I said, don't over think it; just ignore what you see and buy the dip (even if it is only 0.5%).  

Lastly, I should note that Trader Mark over at blog also noticed the same thing about EEM and IYT, but he had the "grapefruits" to mention this first.  So that makes a consensus of two, and in this crazy market that is a contrarian signal!

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