Morning Tack: “Overbought Pullbacks Ain’t What They Used to Be”
Andrew Adams | (727) 567 4807
“While extreme overbought readings generally suggest that the market is overdue for a pullback or at the very least a consolidation, when we look back at prior periods where global equities were in a synchronous (that seems to be a popular buzzword these days) rally like the one now, the S&P 500 saw better than average returns going forward.”
…Bespoke Investment Group, 1/10/18
In yesterday’s report, we noted that both the S&P 500 and NASDAQ Composite indices were hitting upside extremes, with the former more overbought than at any other point since at least 1980 based on one measure (weekly RSI). This “extendedness” and the lackluster day Tuesday seemed to be setting up the market for some weakness, and, to their credit, the bears were able to take advantage and force stocks down yesterday for the first time in 2018. Of course, they were probably hoping for a little more than the three points they managed to squeeze out of the S&P, as early session losses were mostly recovered before the 4:00 p.m. close.
Overall, it was kind of a strange day – Financials were up a respectable 0.85%, but the other S&P 500 sectors mostly struggled. The interest-rate sensitive areas were hit the hardest as the benchmark 10-Year U.S. Treasury almost tagged 2.60% before being knocked back down by resistance. The impetus behind such trading action was reportedly a story from Bloomberg that China is considering slowing or halting purchases of Treasuries, though later in the session the narrative seemed to shift more toward renewed speculation that the U.S. will withdraw from NAFTA. Whatever the reasons, stocks did not meaningfully pull back and remain quite strong. It is not just the U.S. market either – Bespoke Investment Group’s work shows that global equity benchmarks have “the most overbought aggregate reading we’ve seen in five years” – and that may actually be a positive sign. The same Bespoke report further notes that while such historical overbought readings have negatively affected average returns over the next week, the one- and three-month forward performance for the S&P 500 has been stronger than for all other days. So despite some sort of pullback being a possibility at any time, we continue to think the market trades higher in the weeks ahead.
Switching gears to our recent comments on Commodities, we have been overwhelmed with requests for actual ways to play to the theme.
If you will recall, we have stated that we think Commodities, as a broad asset class, have entered a secular bull market after years of generally poor performance, and this could be good news for investments tied to oil, precious and industrial metals, and other natural resources. Many of the individual ideas that stand to benefit are already extended in their own right, particularly in the Energy sector, but funds like the SPDR S&P Global Natural Resources ETF (GNR/$50.93), FlexShares Morningstar Global Upstream Natural Resources Index Fund (GUNR/$34.28), and SPDR S&P Metals & Mining ETF (XME/$38.11) could be interesting, especially on pullbacks. And if interested in individual stocks, our analysts currently like Continental Resources Inc. (CLR/$56.52/Strong Buy), Hi-Crush Partners LP (HCLP/$12.35/Strong Buy), MPLX LP (MPLX/$37.35/Strong Buy), Targa Resources Corp (TRGP/$49.52/Strong Buy), Kosmos Energy Ltd. (KOS/$6.83/Strong Buy), and Unit Corp (UNT/$23.84/Strong Buy) the best.
The bears will get another chance today to knock the overbought market down, but the pre-opening futures are pointed higher, so far, as China pushes back on that aforementioned report regarding the U.S. Treasuries.