ETF Trends, Patterns and Setups – Leaders Revert Back to Laggards, Rising Correlations, Bonds and Gold Stuck Together

Last week I wrote about a possible changing of the guard, and Wednesday I had to rein in the bulls as small-caps and banks got cold feet. While the sudden change of heart over the last three days is not quite as dramatic as the rise from the ashes in late September, it is a warning shot across the bow for the stock market. Small-caps, mid-caps and banks are simply not performing that well this year.

A wide array of ETFs recorded new 52-week highs in October, but the bigger tell could be the ETFs that did not record 52-week highs in October. Several really important ETFs, such as SPY, QQQ and XLK, did not record new highs in October and several even traced out lower highs. This shows a performance divergence in the stock market and points to at least a corrective period.

Pretty much everything stock-related declined the last three days, even Utilities and Staples. This is a good reminder that correlations rise during sharp declines. Just check out March because there was nowhere to hide from late February to mid March. I am not necessarily looking for another crash, but keep this concept in mind.

RSI fell into the 30-50 zone because of sharp declines the last one to two weeks. Even though this zone is considered an oversold zone that sets up for a mean-reversion bounce, ETFs often need time to stabilized after sudden moves into the 30-50 zone. Many of these declines were outsized (above average). Check out the early June plunge for examples of the need to stabilize after a hard right hook to the jaw.

ETF Grouping and Ranking by Trends, Patterns and Setups

New High in Oct and Pullback


The list of ETFs making new highs is quite varied, but a couple of themes emerge. The Consumer Discretionary SPDR (XLY), Semiconductor ETF (SOXX) and Home Construction ETF (ITB) represent cyclicals. The Clean Energy ETF (PBW) and Solar Energy ETF (TAN) represent clean energy. The Biotech SPDR (XBI), Medical Devices ETF (IHI) and Healthcare Providers ETF (IHF) represent healthcare. The Water Resources ETF (PHO) represents utilities and XLU is in the next group.

All of these ETFs hit new highs and then fell sharply in some way, shape or form. XLY, SOXX, FINX and ITB are below their 50-day SMAs, while the rest remain above. SOXX is down 11 of the last 12 days and ITB is testing its September low already. IHF and PHO hit new highs on Friday and then plunged the last three days. Note that XLY and SOXX advanced over 90% from late March to October without much of a corrective period. A normal correction could retrace one third to one half of this monster advance and return to the rising 200-day SMA. A corrective period could also last one to three months.

The green/red zigzag on the ITB chart shows a 10+ percent decline from the October high. This is the biggest downswing since June and it took 3-4 weeks to stabilize after this outsized decline. Even though RSI is in the oversold zone, ITB is at support and a short-term oversold bounce is possible. However, at this stage, I think the ETF needs some time to stabilize and find its feet before resuming its uptrend.

The Biotech SPDR (XBI) held up better than most and definitely better than the Biotech ETF (IBB). XBI did not trigger the ATR Trailing Stop and formed a falling wedge the last few weeks. This is a bullish continuation pattern and a breakout at 118 would signal an end to this mild correction.  

You can learn more about ATR Trailing stops in Tuesday’s post, which includes a video and charting option for everyone.

Long Triangle and Breakout


The Utilities SPDR (XLU) was hit hard on Wednesday as the market through out the baby with the bath water. XLU broke out of a bigger triangle in early October and recorded a multi-month high on Tuesday. Wednesday’s sharp decline shows how correlations rise during broad market declines. The breakout zone and 200-day mark first support to watch on a throwback.

Equal High Sep-Oct, Sharp Decline


The Software ETF (IGV) and Cloud Computing ETF (SKYY) both equaled their September highs, which were 52-week highs. Both peaked on October 14th and fell sharply with SKYY loosing 10% and IGV falling 7%. Overall, both remain above their September lows and have yet to actually forge a bearish reversal. Of course, with equal highs, a double top is possible and a break below these lows would confirm the pattern.

Personally, I am not a big fan of double tops when price is above the rising 200-day SMA, the second high is near a new high and the broader market environment remains bullish. A break and lower low would signal a downtrend, but the real opportunity may be in the 33-50% retracement zone and near the rising 200-day. Keep this in mind going forward.

Lower High Sept to Oct, Above Sept Low


The lower highs in SPY and QQQ are perhaps the biggest yellow flags out there right now. The chart below shows SPY with its second outsized decline in as many months. SPY fell more than 6% in 11 days and is down more than 5% in three days. The last 3-day decline in excess of 5% was early June and it then took three to four weeks to stabilize. This is the minimum amount of time for stabilization. The combination of a lower high and two outsized declines argues for a medium-term downtrend and an upcoming test of the 200-day.

Many of today’s charts show retracement levels based on the big advance since March. I am using traditional Dow Theory retracements of one third, one half and two thirds. Think of retracements as two steps forward and one step backward. Many ETFs were up substantially from March to September or October. Corrective periods after such advances are perfectly normal and can provide opportunities when price enters the 33-50 percent zone and nears the rising 200-day.

Higher High Sept to Oct, Failed Flag, Breakaway Gap


Now we get to the failures, some of which were covered on Wednesday. Small-caps, Industrials and Banks were showing upside leadership with higher highs from September to mid October, but got seriously cold feet this week and led the market lower with outsized declines. The S&P MidCap 400 SPDR (MDY), Russell 2000 ETF (IWM) and Industrials SPDR (XLI) fell 6% or more. These market leading declines show just how fragile these groups are. The chart below shows IWM failing to break out of its flag and plunging into the middle of its rising channel, which defines the overall uptrend. RSI is in the 40-50 zone and mildly oversold, but the ETF may need time to stabilize. A break below the September low and 200-day would reverse the overall uptrend.

Equal High Sept to Oct, Breakaway Gap


The next group of ETFs formed equal highs and fell sharply from these highs. Well, pretty much everything stock-related fell sharply this week. These ETFs have yet to fully reverse their uptrends because they are above their 200-day SMAs and above their September lows. However, the S&P 500 EW ETF (RSP), S&P SmallCap 600 SPDR (IJR), Metals & Mining SPDR (XME) and High-Yield Bond ETF (HYG) have falling 200-day SMAs. The chart below shows RSP, which represents the “average” stock in the S&P 500. An Ascending Triangle was taking shape, but the ETF fell violently from resistance with gaps on Monday and Wednesday. Even though it is ripe for an oversold bounce short-term, year-to-date performance and performance since the June high is uninspiring. It’s hard to be just an average stock.

The next chart shows the High-Yield Bond ETF (HYG), which could be the single most important chart right now. Why? Because it reflects the situation in the junk bond market. An uptrend and new highs in HYG show confidence, while a downtrend and breakdown show stress. There is a lot of talk about potential solvency issues and this will ultimately be reflected in the junk bond market. The chart shows HYG going nowhere since August and falling from resistance over the last few weeks. HYG is below its June high and seriously lagging, kind of like the Finance sector, which is affected by the ability to pay back debt. A break below the September low would be bearish and also signal a widening in junk bond spreads.

Solvency Issue

Check out this Youtube video from Raoul Pal of RealVision for an interesting take on the current situation. Pal, a macro guy, identified different stages and transitions since February: crash, Fed induced surge, stimulus-related continuation, leveling off and now a solvency crisis. Take his chart assumptions with a big grain of salt. Also keep in mind that the Fed will not hesitate to ramp up, there will most likely be a HUGE stimulus package early next year. Yep, it is complicated as hell right now.

New High in October and Broke September Low


The Mobile Payments ETF (IPAY) went from leader (new high) to laggard (lower low) in three weeks. The September lows are benchmark lows and not many ETFs broke these lows. ETFs that did show more selling pressure than ETFs that did not. The 33% retracement line and rising 200-day are the next levels to watch.

Rounding Bottom


The US Dollar Index ($USD) caught a bid as money moved out of stocks. The Dollar acts as a safe haven currency and is largely negatively correlated with SPY. Note that the Yen ETF (FXY), another safe haven currency, is also strong. Trading has been quite choppy for the greenback since August, but it is possible that a rounding bottom is taking shape, which jibes with a weakening stock market. A channel breakout is in the making and this could lead to a bigger breakout (above the late September high).

Falling Channel/Wedge Since Aug-Sept


The 20+ Yr Treasury Bond ETF (TLT) and bond ETFs were up this week and offered and alternative to stocks. The Gold SPDR (GLD) and precious metals ETFs were down, probably because the Dollar popped. Despite opposite moves the last three days, the overall patterns remain the same for TLT and GLD: falling channels/wedges since August-September.

TLT is all about the three swings: down from mid April to early June, up from early June to early August and down since early August. Given the trading range since April, I am not sure how much value the 200-day SMA and StochClose indicator offer. The three swings are what really count. TLT bounced back the last four days and a follow through breakout at 164 would reverse the current downswing. With stocks and Treasuries largely negatively correlated, a breakout would likely coincide with further weakness in stocks.

The Gold SPDR (GLD) continues to frustrate because it cannot follow through on a breakout. GLD broke out with a surge on October 9th and then fell sharply the last five days. The ETF broke the small rising channel within the bigger falling wedge. It did not close below 176, but the trend is clearly down since early August. This wedge still looks corrective in nature because it retraced one half to two thirds of the prior advance and price remains well above the rising 200-day.

Lagging, Downtrends and Off my Radar

The rest of the ETFs are off my radar because of persistent downtrends and/or recent failures. IWM is also a candidate for this group. I covered the Regional Bank ETF (KRE) and Finance SPDR (XLF) on Wednesday. KRE is not on my radar anymore because its parent sector is weak, it led the market lower the last three days and junk bonds are flat – at best.

Back Below Falling 200-day SMA with Outsized Decline: KRE

Lower Highs June to Sept to Aug, Failed Flag, Breakaway Gap: XLF, KIE

Triangle since June, Short-term Reversal, Testing Sept Low: XLRE, REZ, REM

Descending Triangle, Broke September Low: ITA

Bounce and Possible Flag (but within Long-term Downtrend): MJ

Long-term Laggard and Downtrend: XES, XOP AMLP, FCG

New 52-Week Low: XLE

Thanks for tuning in and have a great day!

-Arthur Hill, CMT
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