Reflections on the Market's Technical Strength

We moved higher on Wednesday in expected follow through to the big Tuesday rally, but participation in the strength waned through most the day and we finished weak. The important thing to assess is whether we can test those Wednesday highs in the near term and whether the market attracts participation on any such tests. If not, we then look to the Wednesday highs and Monday lows as a broad trading range and a test of the Monday lows is not out of the question.

A solid move above the Wednesday highs with broad participation would increase the odds of this being a longer-term bottoming process. Again, my main concern is whether Tuesday was mere short-covering or the beginning of sustained buying, as longer-term participants identify value after the decline. I am looking to financial stocks, semiconductors, consumer discretionary issues, and small caps to see evidence of this value-based buying.

There's no question that the recent rally took most sectors higher. Recall that my Technical Strength measure is a quantification of trend. Of the 40 stocks across the S&P universe (evenly spread across eight sectors) that I follow, 8 qualify as technically strong, 11 as neutral, and 21 as weak. The Technical Index score of -920 shows that most stocks continue in downtrends, but that the weakness is far less broad than a couple days ago. WMT, KO, MRK, and JNJ stand out as strong stocks at present.

Here are the Technical Strength scores broken down by sector:

Materials: -120
Industrials: -260
Consumer Discretionary: -360
Consumer Staples: +280
Energy: -280
Health Care: +60
Financials: -80
Technology: -160

The pattern here is noteworthy in three respects:

1) Financials have moved smartly off their lows and are no longer the weakest sector;

2) The gap between Consumer Discretionary and Consumer Staples issues has widened.

3) Energy shares continue to underperform the oil market itself.

The second reflects recessionary themes--a preference of shares that are likely to hold up during times of economic slowdown. The third may also be consistent with economic slowdown. It is the Financial sector, however, that I'm watching most carefully (along with pricings in the credit markets) to assess evidence of increasing confidence in the banks.

I believe it's important to differentiate the theme of slowdown due to housing weakness and consumer retrenchment and the theme of credit crunch and possible expanded bank turmoil. If we see evidence of reduced concern about the latter, I expect the market to weather those other concerns quite nicely.

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My Previous Look at Technical Strength and Market Weakening
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