Did you miss the gold rally? Here’s another sector about to set up

All eyes were on the Fed yesterday as
the FOMC made their decision on interest rates,
raising the fed funds rate by .25% to 3.75%. For the first time since the
tightening cycle began, there was some dissention in the ranks as to whether or
not the fed would or would not raise rates at this juncture. This difference of
opinion came from some fed watchers thinking that the economy could use a break
from the tightening, due to possible adverse effects of hurricane Katrina on the
nation’s economy going forward. As we now know, the fed thought differently, and
clearly stated that “while these unfortunate developments have increased
uncertainty about near-term economic performance, it is the Committee’s view
that they do not pose a more persistent threat.” The end result was another
quarter point increase which led to a 2:15 late day selloff that deflated the
Dow by 76.11 (.72%), the S&P 500 by 9.68 (.79%), and the Nasdaq Composite by
13.93 (.65%). Selling was broad-based, but concentrated heavier in the
homebuilders than in most other sectors. The $DJUSHB which tracks the builders
stocks was off by almost a full 5 percent by the time the closing bell rang at
4pm. Although Morpheus Capital and this publication have been bearish on this
sector for some time now, a look at the chart below may tell us that the
accelerated selling in this sector is just about to begin.

Notice the trendline break in the weekly chart above. The
trendline is annotated in blue and has been in place since October of 2004
(almost a full year at this point). Yesterday’s weakness in the sector
contributed to a confirmed close below this weekly trendline. Whenever
trendlines on weekly charts are violated to either side, its a technical event
that should not be ignored. Remember, the importance or “weight” of a trendline
break increases in direct proportion to the timeframe in question when trying to
discern the trend. Dailies over hourlies, weeklies over dailies, etc. As you can
see from the graphic above, the homebuilders index could easily retrace to its
next level of support at the 780 area, which would be a drop of 15% from current
levels. As we know, unfortunately no ETF tracking the entire basket of builders
but you can always “do it yourself” with a synthetically created ETF basket of
(
RYL |
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(
LEN |
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TOL |
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CTX |
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BZH |
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PowerRating) and others.

Although volume came in heavier yesterday, increasing by 9% on
the NYSE and 16% on the Nasdaq (giving us a confirmed distribution day), there
was so much early strength in biotechs that the index managed to close above its
open even with the late day Fed selling. Notice from the chart below how well
(
BBH |
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which tracks the
(
BTK |
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PowerRating) is holding up here in relation to other sectors which
are relatively weaker. Although we recently closed out a very profitable long
position in BBH, we may be considering a reentry on the ETF soon as the
biotechnology index seems to be extremely resilient in the face of a rather
shaky market.

It should be clearly noted at this juncture that the isolated
strength in the biotechs and energy sectors is very indicative of what is
happening in the market as a whole. To be more specific, although there is a
longer term uptrend still in place here, the advance is certainly not
characterized as “broad based”. This means that not all sectors are moving in
sync with each other as they were when the markets staged their last meaningful
advance in the late 1990’s. In direct contrast to the strength in the oil and
gas indexes is very weak performance in a wide range of sectors such as housing,
chemicals, automakers, internets and retail. Remember that this often creates
what we call a “tug of war” and makes trading from either side difficult. The
daily chart of the SPY below illustrates this perfectly and reminds us as always
that we must “trade what we see and not what we
think”.

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