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Chart Advisor | Focus on the Price

By Gordon Scott, CMT

Wednesday, May 13, 2020

1. Stocks extend selling in two-day slide

2. Clean energy industry losing breadth

3. A closeup look at Cisco after earnings

Market Moves

Stock indexes closed lower for the second consecutive trading session. The total decline for the past two days is the largest such decline since the March lows. How can investors know whether or not this is just another dip in prices or if this marks the beginning of a much larger downward move? No one has developed the perfect indicator for solving that mystery, however three subtle indications might help chart watchers pick up some important clues.

The first is to consider a fundamentally central sector or industry group and look at how it is holding up against recent market moves. In 2007, those who closely watched the Real Estate sector were able to pick up important early warning signs of the troubles coming in the year after. The chart below examines the commercial real estate sector by looking at State Street's Commercial Real Estate Sector ETF (XLRE) and compares its relative strength to other index ETFs.

This is a very useful ETF to watch because it can give an early warning for another core sector: finance. If commercial tenants are having trouble paying rent, that can cause liquidity problems among the finance sector. While the chart below does not give any pending indication of doom in the sector, it does show an important weakening trend over the past few weeks. This sector has begun to underperform the broader market indexes traced by State Street's S&P 500 index ETF (SPY), Invesco's Nasdaq 100 index ETF (QQQ) and iShares Russell 2000 index ETF (IWM).

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Clean Energy Industry Losing Breadth

Another indication is whether or not the market overall is losing breadth in the current moves. Clean energy ETFs filled with stocks that investors bid up as their strategies included an ESG mandate have taken the COVID-19 downtrend a bit harder than average. Even though some of the top holdings within these ETFs are doing relatively well, the ETF itself experienced a bigger drop relative to the broad market indexes today.

The chart below compares Invesco's WilderHill Clean Energy ETF (PBW) with its three top holdings. Notice that as the ETF fell lower than the market today, it was not driven significantly lower by Enphase (ENPH) or Tesla (TSLA), the top two holdings in the fund. Instead it was driven lower by Bloom Energy (BE), the number three holding in the fund, and a host of other companies with smaller holdings in the fund. That means the breadth of the fund is breaking down. ESG is a small industry group, but if a similar behavior takes hold in major sector ETFs, such an event would be a sign of continuing downward moves for the broad market indexes.

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A Closeup Look at Cisco After Earnings

The third indication is to look at a key company to see how its business is being influenced by the overall economic conditions right now. Fortunately we have just such a company reporting its latest available information on that very subject today. After the bell, Cisco (CSCO) reported on its quarterly earnings. Cisco is a good company to be looking at right now because so many companies have implemented work-from-home policies of late, that the company who specializes in internet hardware ought to be doing well.

The chart below suggests they are. The company reported that it beat sales and earnings forecasts. It also raised its forward guidance slightly since 95% of its workforce is working from home right now. After-hours traders responded by buying up shares above $44 dollars a share before settling a bit lower. Unlike the other two points, this is actually a bullish indication of what may come in the weeks ahead.

The Bottom Line

Stocks sold significantly over the past two days creating either a great buying opportunity or a warning to investors to take profits while they can. Though signals remain mixed, the Real Estate sector is showing weakness and the clean energy industry group is losing its breadth (both bad signs). One bright spot is that Cisco beat estimates in its earnings report.