Divergences and Setups Abound

U.S. equity buyers stepped in where they were supposed to step in and after a week of volatility spikes, dip buyers are on the winning side again.

The good news – the recent pullback has helped form quite a few good risk to reward setups. A lot of stocks consolidated side-ways and started to break out near the end of the week when the market averages bounced higher. The St50 list gained 0.93% for the week, outperforming the averages.

The bad news – we are still in a range-bound market, which will continue to deliver a lot of fake breakouts and breakdowns.

Speaking of range-bound and fakeouts, this seems like a good time to talk about the so called “taxi driver syndrome”: people tend to get more active where there is less work to do in order to compensate for the smaller revenue stream and less active when there is a lot of work. In reality, they would do a lot better if they are more active when there is more work to do and just take the day off when there is less work. The same applies to traders and investors. In a higher volatility environment most people naturally make less money, so to compensate, they trade more and try harder for little or even negative results. In clean trending environments is a lot easier to make money, so most people don’t sweat it too much and don’t press to take advantage of the opportunities.

People’s expectations for making equal amount of money every week or month could cause a lot of harm. The return curve in the market has very fat tails – a few stocks and a few months will account for the majority of your annual gains.

Let’s take a quick look at the major asset classes to see where we stand:

major assets

The U.S. Dollar ($UUP) has its worst week in months. The only commodity that benefited from the Dollar’s weakness was crude oil ($USO), which spiked close to 5%. When all is said and done, the “black gold” is still in no man’s land and it doesn’t seem to be going anywhere soon.

The U.S. Dollar and U.S. equities have been going in the same direction for the better part of 2013 and they finally part ways last week. One week does not make a trend, but it is something to watch carefully. Correlations change, but they also tend to continue for years as this chart from Chris Kimble reveals:


Speaking of divergencies, have you looked at emerging markets ($EEM) lately? They have been underperforming in 2013 and last week broke down to levels not seen since last December, where they sit at major support. The odds are that we might see some type of a bounce there in the coming couple weeks. Despite the weakness in emerging markets, many of the Chinese ADRs are in good shape and had another decent week – $JOBS, $SINA, $BIDU, $CTRP etc.

Interest rates continue to rise as U.S. Treasuries ($TLT) lost ground for a 7th week in a row, dropping to new 52-week lows. Despite the recent spike in yields, they are still near historic lows and financial stocks continue to benefit from the steepening of the yield curve. Among the biggest gainers last week were investment banks, brokers and asset management firms.

Cancel that vacation to Japan. The Yen ($FXY) had a monstrous week and recovered some of its humongous losses since December, but it is still in a downtrend. There are trillions of dollars behind the yen carry trade and the moves there have major implications for all asset classes. Strong Yen is supposed to be negative for equities, but we saw a divergence in that relation near the end of the week.

Take a look at the latest St50 List here.