Sector Detector: Basic Materials Surges in Rankings

 |  Includes: IYC, IYH, IYW, IYZ
by: Scott Martindale

The past few days have given us a wild ride in the markets, thanks primarily to unrest in the Middle East. After this extended run since December 1, I have been waiting for the market to decide between either pulling back to consolidate gains and find a strong support point from which to launch on a renewed bullish run … losing critical support and turning bearish.

Looking at the SPY chart, Friday gave us a big red candle and a scary break of both the uptrend line and 20-day moving average that I was waiting for, after a long period in which it barely tested them. Then, for the first time in two months, RSI reached back down to the neutral line, where I was looking for it to either bounce or continue to cycle down to oversold territory, while the MACD was only just starting its decent from overbought. As it has turned out, RSI has bounced strongly. Price stabilized on Monday and then gapped higher today, pushing the Dow and S&P500 to heights they haven’t reached in over two years. RSI and MACD have been turned back up sharply, as well, and we might be seeing something of a bullish “cup & handle” pattern.

I was hoping for more weakness this week to shake out some of the weaker momentum holders and give the market a firmer foundation from which to continue its rally, but with the dollar cratering and industrial production up, investors took it as a green light to scoop up stocks now rather than later (and risk missing out). I have been suggesting that a pullback would likely be shallow and short lived, but this one was awfully quick. I’m not so sure that’s all we’re going to get.

The market volatility index (VIX) closed today at 17.63 after spiking over 20 on Friday, and the TED spread (i.e., indicator of credit risk measuring the difference between the 3-month T-bill and 3-month LIBOR interest rates) is at 16.34, which is up only slightly since last week. Both indicators remain relatively low and still reflect complacency (and investor optimism).

Latest rankings: The table ranks each of the ten U.S. industrial sector iShares (ETFs) by Sabrient’s proprietary Outlook Score, which employs a forward-looking fundamentals-based algorithm to create a bottom-up composite profile of the constituent stocks within the ETF. In addition, the table also shows Sabrient’s proprietary Bull Score and Bear Score for each ETF.

High Bull score indicates that stocks within the ETF have tended recently toward relative outperformance during particularly strong market periods, while a high Bear score indicates that stocks within the ETF have tended to hold up relatively well during particularly weak market periods.

As a group, these three scores can be quite helpful for positioning a portfolio for a given set of anticipated market conditions.

Sabrient’s SectorCast ETF model continues to favor Healthcare and Technology, but Basic Materials has made a notable surge in the rankings. Technology (NYSEARCA:IYW) returns to the top spot this week with an Outlook Score of 89. Healthcare (NYSEARCA:IYH) remains strong with an 83. These two have consistently scored at the top as their performance hasn’t outrun reasonable valuation and analyst expectations.

Basic Materials (NYSEARCA:IYM) made a huge surge this week – leaping 28 points from with a score of 53 to an impressive 81 – as analysts boosted earnings estimates for stocks in the sector.

It is encouraging for bulls to see that five of the 10 sector ETFs are scoring well above the 50 mid-point score. This reflects optimism among analysts.

Telecommunications (NYSEARCA:IYZ) of course shows up again in the cellar with a 16, as the U.S. Telecom companies just don’t show much in the way of compelling growth or projected valuations. Consumer Services (NYSEARCA:IYC) weakened significantly, and joins IYZ in the bottom two this week with a score of 24.

Looking at the Bull and Bear scores, Basic Materials (IYM) and Technology (IYW) have tended to perform the best in recent periods of overall market strength, while not surprisingly Healthcare (IYH) and Utilities (NYSEARCA:IDU) have held up the best on weak market days. Overall, I would say that Technology (IYW) boasts the best combination of the three scores.

IYH continues strong in return on equity and return on sales, and it has by far the lowest (best) projected P/E, although its long-term growth rate is a bit suspect. IYW remains strong across most all factors in the quantitative model, scoring highly (on a composite basis across its constituent stocks) in return on equity, return on sales, projected P/E, projected year-over-year change in earnings, and analysts increasing earnings estimates.

Top ranked stocks in Healthcare and Technology include Sanmina (NASDAQ:SANM), Fairchild Semiconductor (NYSE:FCS), HealthSpring (NYSE:HS), and Forest Labs (NYSE:FRX).

IYZ has by far the highest projected P/E and the worst return on equity. IYC is notably weak in return on sales as retail margins continue to be squeezed despite improving consumer spending.

Low ranked stocks in Telecom and Consumer Services include American Tower (NYSE:AMT), Terremark Worldwide (NASDAQ:TMRK), (NASDAQ:AMZN), and Six Flags Entertainment (NYSE:SIX).

These scores represent the view that the Healthcare and Technology sectors may be relatively undervalued overall, while Telecom and Consumer Services sectors may be relatively overvalued, based on our 1-3 month forward look.

Disclosure: Author has no positions in stocks or ETFs mentioned.