foxex: Grey Swan

Chart Advisor | Focus on the Price

Wednesday, January 29, 2020

1. Microsoft earnings complete a one-two punch to market bears

2. High tech and low energy

3. Investors tip hand to home construction market

Market Moves

Microsoft reported earnings shortly after the close today. The news was good. The company not only beat top-line estimates but increased profits as well. This news follows on the heels of similar results from Apple (AAPL). The importance of these reports is that those two stocks form nearly half of the influence on the Nasdaq 100 index (NDX).

The S&P 500 (SPX), the Nasdaq 100 (NDX), and the Dow Jones Industrial Average (DJX) all closed nearly unchanged today, though the Russell 2000 (RUT) and the Russell Microcap index (RUMIC) were decidedly down at the close. This outcome implies that investors will shift to safer versions of assets in the coming weeks. That typically means FAANG stocks in recent years. Given what Microsoft announced today, it seems likely that the news will fuel the Nasdaq 100 higher. This is actually a very bullish outcome considering that the market is facing an ongoing grey-swan event associated with the Coronavirus headlines.

High Tech and Low Energy

As the news about China's woes in containing the Coronavirus continue to wash out into the sea of investors worldwide, the response to that news takes on various forms depending on which sector of the stock market is observed. Three days into this week, the sectors have already begun to reveal a pattern that explains how investors look at the threat.

The chart below displays a comparison among State Street's S&P 500 ETF (SPY) and its sector fund ETFs including Technology (XLK), Healthcare (XLV), Industrial (XLI), Utilities (XLU), Financial (XLF), Staples (XLP), Basic Materials (XLB), Discretionary (XLY) and Energy (XLE). Looking closely at the dip and rebound chart watchers notice three subtle observations. First, XLU is the only sector making new highs at the moment (so some nervousness still remains). Second, the technology sector is rebounding most strongly (which implies investors are still willing to take risks for higher returns). Third, the energy sector, already struggling, has taken a hard hit and will likely have difficulty recovering quickly.

The importance of this information is that investing in broad-brush strategies is unlikely to be the best tactic right now. The negative moves of the weakest sectors may cancel out the positive moves of the strongest sectors. Better to adopt strategies which maximize the trends of the market.

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Investors Tip Hand to Home Construction Market

With the stock market recovering from both fears of worldwide epidemic and the notion that prices are just simply too high, it is instructive to look at sectors where investors are likely to display either signs of optimism or a need for safe havens. The chart below gives the impression that investors will lean towards optimism and opportunity.

This chart compares State Street's Homebuilder index ETF (XHB) with an equal-weighted portfolio of the top seven most heavily traded home construction companies, including Pulte Homes (PHM), D.R. Horton (DHI), Lennar (LEN), KB Home (KBH), TRI Point Group (TPH), Taylor Morrison Home Corporation (TMHC) and Toll Brothers (TOL). These charts differ because XHB includes many construction related stocks such as Home Depot (HD) or Whirlpool (WHR) which benefit from the after effects of rising home sales. The five days in comparison on each chart show that investors clearly favor the builders themselves, despite fears of what may yet come in 2020.

The Bottom Line

Stocks made lackluster moves today, but Microsoft reported very strong earnings. Combined with the good news from Apple yesterday, the rise in these two stocks should lift the Nasdaq 100 going forward. Meanwhile various sectors are showing starkly different responses to the Coronavirus. Homebuilder stocks seem to be holding favor with investors.