Basing patterns are often a buy signal and Canadian banks, global agriculture stocks and U.S. junk bonds are poised to take off says Keith Richards, portfolio manager at Barrie, Ont.-based Value Trend/Wealth Management. To take advantage of possible breakouts in these sectors, investors should consider these exchange traded funds.
There are likely as many ways of buying a specific stock or an exchange traded fund as there are investors.
What I like to do is look for a breakout in a stock or a sector from an area of consolidation. And I’ll likely soon be busy because several sectors now appear to be on the verge of a breakout.
Two such sectors are Canadian banks and global agriculture. U.S. high-yield bonds also now seem ready to break free from a base. So, here’s how some of these sectors could become good investment bets over the next few weeks or months.
If you read my book, Sideways, you’ll recall that I divide any market into four phases: base, uptrend, top and downtrend. Not only do these phases repeat themselves, but they do so through many different time periods.
For example, were you to follow a stock on a monthly basis, you’d see the same four patterns repeat themselves over a long period, just as you’d see them do so on a daily chart during a shorter period.
Whatever time frame you pick, you’ll want to find stocks or sectors that are basing, so you can buy them when they break out. If you do so, you’ll see that this is likely the single best way of using technical analysis to make money.
Remember, buying into market trends is easy. But the really dynamic moves in the market occur after a base is broken.
An exchange traded fund for Canadian banks
Canadian banks are now consolidating after pulling back this winter. So, let’s give this sector a once-over.
Back in January of this year, we cleared out of BMO S&P/TSX Equal Weight Banks Index (TSX─ZEB), an exchange traded fund that covers Canadian banks.
But we only did so after the fund made a lower low and then a lower high, after which it broke through its 200-day moving average at the end of January.
We used that rally to make our exit — a move that turned out to be a good one, given that the sector slid lower before recently rallying to where it was when we sold out in January.
True, investors who followed our strategy had to wait five months until the fund returned to its break-even point. But folks who did hold on benefited from significant opportunity costs.
The fund’s recent trough and peaks have now moved higher, suggesting that the banks are forming a base. And although the fund is toying with its 200-day moving average, it’s showing some signs of positive movement on the daily chart momentum oscillators.
Keep in mind too that the share prices of Canadian banks usually perform best from October through to the end of the year. At least, that’s what Brooke Thackray, a Toronto-based analyst, says. Still, in recent years, I’ve done well with the banks when I’ve bought them in late summer.
Meanwhile, to confirm the transition to a phase-two bull trend, the fund needs to top $23.50 a unit — roughly $0.50 above where it trades.
3 exchange traded funds for a global agriculture play
Now, let’s turn to that other sector that appears poised for a breakout: agriculture.
For a fund that tracks this sector, consider iShares Global Agricultural Index ETF (TSX─COW). Despite the fund’s pathetic performance since the start of 2015, it remains in an uptrend.
Not only is the fund’s 200-day moving average intact, but it’s pointing in the right direction.
But pause for a moment. If you look at a daily chart for this ETF, you’ll see that the fund still needs to top $33 a unit before you can start to get really excited.
Yet, agriculture’s big trend on the weekly chart looks fine for individual stocks, such as Archer Daniels Midland Co. (NYSE─ADM) and Monsanto Co. (NYSE─MON).
True, PowerShares DB Agriculture ETF (NYSE─DBA), a fund that covers agriculture’s underlying commodities, now looks to be in a larger downtrend.
But the fund is beginning to form a base. And that’s good news since global agriculture does best in August, Mr. Thackray says.
Another hint that the sector is doing well comes from SentimenTrader, an independent investment research firm headquartered in Blaine, Minn.
SentimenTrader notes that soft agricultural commodities, such as sugar and corn, appear to be leaving their oversold status behind.
And although it may be too early to say that these commodities are moving up, this type of sentiment can still be a good leading indicator.
For what it’s worth, Market Vectors Agribusiness ETF (NYSE─MOO), a fund that covers U.S. agriculture, recently broke out after a multi-year base, having traded sideways since 2011.
And for investors who like to buy when there’s a big breakout from a base, this fund’s chart is particularly attractive.
I myself am watching the fund for a pullback near $56 a unit, which is the breakout point from its long base of consolidation.
2 ETFs for bonds: one is bad news; one may break ceiling
Now, let’s look at the last category that may be on the verge of a breakout: high-yield bonds. Affectionately known as junk bonds, these investments have defied the recent pullback in investment-grade paper.
If you look up the chart for iShares 20+ Treasury Bond ETF (NYSE─TLT), you’ll see what’s obviously a topping formation.
In other words, you’ll see a lower low taking out the last low, followed by a break in the 200-day moving average. This is bad news.
Now look at the chart for the SPDR Barclays High Yield Bond ETF (NYSE─JNK), a fund that tracks junk bonds.
Although the junk bond market is finding some resistance at a prior area of challenge ($40 or so a unit), the technical signs are vastly more encouraging than those for long-term U.S. treasuries.
As it tries to crack the $40 ceiling, the junk bond fund may stay in limbo for a while.
But SentimenTrader has been showing some numbers that suggest the fund is oversold from an investor perspective.
In other words, if traders start to look at what I’m seeing on this chart, the junk bond fund may break through its ceiling.
Of course, both you and I know that we shouldn’t buy until that $40 ceiling is broken. But if it is, the junk bond index may be a great place to see some upside.
Remember that buying a sector or stock when it’s bouncing off its base requires patience.
So, to time your entry, wait for a breakout and watch for a pullback to the breakout point.
Investor’s Digest of Canada, MPL Communications Inc.
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