Canadian REITs are breaking out from a very long resistance point. ValueTrend portfolio manager Keith Richards says it’s OK to own REITs over the summer.
Despite the strong markets in the first quarter of this year, the S&P 500 and the TSX 300 recently came to within a percent or so of those earlier 2018 highs. They just began to retreat on the China trade deal fears. This stoppage at the old highs is no coincidence.
A quick look at markets over the past 18 months will show us that we have been stuck in a trading range with virtually no significant new highs since early 2018. This type of up/down sideways action has happened throughout the stock market’s history. After periods of excessive return, we typically get choppy periods of consolidation. Sometimes we witness a crash, though sideways consolidations are more common. These periods of volatility—whether they be a consolidation or a crash—are necessary to wash out the irrational exuberance of market participants.
The adage ‘The market climbs a wall of worry’ applies here—we need something to worry about to keep the market flowing. When everyone is satisfied with the risk/reward market tradeoff, it is dangerous. The periods of consolidation are out and there is a new wall of worry to climb once the ‘cleansing’ of irrational bulls is finished.
Market swings to continue
My outlook on the market is for a continuation of the 2018—present multi-month swings. These market swings may continue for several more months. Sooner or later, the market can and will break out of its sideways volatility period. In light of an overvalued North American market, we at ValueTrend are trying to focus on areas that are likely to do well in a period of chop.
One area that can do well in a choppy market is bonds. There is a definite relationship between the long bond and the S&P 500 during significant bear markets. We saw extreme movements into bonds during the 2001/2 and 2008/9 market crashes. There was also ample evidence of rotation into safety during the bear of 2011 and the significant correction of 2015/16. Even 1998 saw some minor rotation into bonds.
So, bonds can be a good hiding place. However, there is an alternative to bonds within the Canadian stock market that may offer even better upside potential. That alternative is the REIT sector.
There’s an adage in technical analysis circles that suggests we should pay particular attention to long-base breakouts. The saying goes something like this: ‘The greater the base, the better the case.’
Canadian REITs are breaking out from resistance point
Right now, iShares S&P/TSX Capped REIT Index ETF (TSX—XRE) is breaking out from a very long resistance point of around $18/share. In fact, the sector has been stuck in no-man’s land. The $18 wall had been in place since 2013. That’s a long time.
So, this year’s breakout through $18 is significant. It illustrates that that break put the sector into intermediate-term overbought territory. RSI, MACD, and stochastics are overbought and rounding over. That’s to be expected. I expect that we’ll see a return of the index to $18. But I also suspect that $18 will become a new support level—and may indeed be a good entry spot.
Seasonality is strong for the sector in a choppy pattern over the summer. It’s kind of divided between a brief period of strength in the spring, followed by another jump from July to September. I’ll just piece it together and say that it’s seasonally OK to own REITs over the summer on average.
Adding to that is the bullish money-flow. This year, the charts suggest even greater reason to consider this sector as a defensive trade—and as an opportunistic one. If the play fails, you may earn a bit of dividend, and could choose to stop out if the sector ETF drops below $17. It doesn’t hurt to look at individual plays within the ETF for increased upside potential.
Keith Richards, Portfolio Manager, can be contacted at firstname.lastname@example.org. He may hold positions in the securities mentioned. The information provided is general in nature and does not represent investment advice. It is subject to change without notice and is based on the perspectives and opinions of the writer only. It may also contain projections or other “forward-looking statements.” There is significant risk that forward looking statements will not prove to be accurate and actual results, performance, or achievements could differ materially from any future results, performance, or achievements that may be expressed or implied by such forward-looking statements and you will not unduly rely on such forward-looking statements. Every effort has been made to compile this material from reliable sources; however, no warranty can be made as to its accuracy or completeness. Before acting on any of the above, please consult an appropriate professional regarding your particular circumstances.
This is an edited version of an article that was originally published for subscribers in the May 2019/Second Report of The MoneyLetter. You can profit from the award-winning advice subscribers receive regularly in The MoneyLetter.
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