If You Bearish On Home Construction, Here Are 8 Stocks To Watch

The broad market attempted to rebound from Tuesday’s losses
yesterday morning, but afternoon weakness caused the major indices to give back
most of their gains. At its mid-day high, the S&P 500
(
SPX |
Quote |
Chart |
News |
PowerRating) was trading 0.5%
higher, but it sold off in the final hours and closed only 0.1% higher and near
its intraday low. The Nasdaq Composite
(
COMP |
Quote |
Chart |
News |
PowerRating) and Dow Jones Industrial
Average
(
DJX |
Quote |
Chart |
News |
PowerRating) each achieved 0.4% gains, but both indices only managed to
close in the middle of their intraday ranges. Both the S&P 400 Mid-Cap Index
(
MDY |
Quote |
Chart |
News |
PowerRating)
and the Russell 2000 Small-Cap Index
(
RUT |
Quote |
Chart |
News |
PowerRating) traded in narrow ranges and were
unchanged.

Total volume in the NYSE increased by 7% yesterday, while
volume in the Nasdaq was less than 1% higher than the previous day’s level.
However, despite the broad market gains on higher volume, yesterday can not
accurately be defined as an "accumulation day." Most of the increase in volume
came near the day’s highs, which likely indicates institutional selling into
strength. Because the S&P 500 gave back nearly all its morning gain and closed
near its worst level of the session, it is more accurate to label the session a
day of "churning." If you quickly punch the accelerator on a car with a powerful
engine, it will make a lot of noise and the tires will spin, but the car won’t
immediately go anywhere. Similarly, "churning" is a trading day in which volume
accelerates, but there is no significant price gain. This type of action is
usually bearish, as it typically disguises institutional selling into strength.
When this scenario has occurred in the past, it has often led to new lows being
formed the following day.

One industry sector that is really starting to look
interesting is the U.S. Home Construction Index
(
.DJUSHB |
Quote |
Chart |
News |
PowerRating). We initially
pointed out this index after it had broken support of its 50-day moving average
on August 8. In the week that followed, the sector consolidated by trading
sideways, in a narrow range near its lows. Just as sideways consolidation near
the highs is bullish and usually leads to new highs, consolidation at the lows
is equally bearish and often results in new lows being set. This is what
happened yesterday, as the DJUSHB dropped below the range and closed at its
lowest level since June 24. The daily chart of DJUSHB below illustrates the
narrow, sideways range that resulted in a breakdown to a new low less than two
weeks after closing below the 50-day moving average:

Because the Home Construction Index has been in a steady
uptrend for the past five years, it is important to look at the longer term
weekly and/or monthly charts in order to see key support levels that you can
easily overlook on the daily chart. Doing so enables you to not lose perspective
of your time horizon on any trades. The weekly chart of DJUSHB below shows the
index is still pretty far away from its primary, long-term uptrend line:

Notice that the 200-day MA (the orange line in the first
chart) is also in the same vicinity as the multi-year uptrend line on the second
chart. Therefore, this would be an ideal level to watch for possible reversals
in any home construction stocks you may be short. As you probably know, there is
not an ETF that specifically tracks this sector, but taking a small basket of
stocks within the index is a good way to achieve some of the diversification
that ETFs offer. The Morpheus Capital hedge fund, for example, is currently
short
(
RYL |
Quote |
Chart |
News |
PowerRating),
(
PHM |
Quote |
Chart |
News |
PowerRating), and
(
LEN |
Quote |
Chart |
News |
PowerRating), three stocks in that sector with
similar chart patterns. Others to consider, in no particular order, are:
(
HOV |
Quote |
Chart |
News |
PowerRating),
(
KBH |
Quote |
Chart |
News |
PowerRating),
(
DHI |
Quote |
Chart |
News |
PowerRating),
(
TOL |
Quote |
Chart |
News |
PowerRating), and
(
BZH |
Quote |
Chart |
News |
PowerRating).

As for the major indices, the S&P 500 Index is now
precariously perched on top of its 50-day moving average, which it touched
yesterday, but closed just above. The 50-day MA also converges with the S&P’s
prior highs from June, which provides further support. The daily chart below
illustrates this:

The convergence of the 50-day MA with the prior highs from
June makes for a key level of support in the S&P 500. If the index holds this
level, it could provide an ideal entry point to test the waters on the
long side of the market again. Conversely, a firm close below the 50-day MA
would probably set a negative tone for at least the next several weeks. All eyes
will be on how the index acts near the 50-day MA in today’s session.

Don’t forget that the Dow, which we discussed yesterday, is
also clinging to support of the more important 200-day moving average. It probed
below it intraday, but closed yesterday just above it. A break below yesterday’s
low would obviously be bearish for the Dow (and DIA), and could result in "panic
selling" in the Dow.

The Nasdaq Composite remains below new resistance of its prior
uptrend line that was broken on Tuesday, but the Semiconductor Index is holding
above its primary uptrend line and could help to stabilize the Nasdaq. Again, we
do not recommend shorting in the Nasdaq-related sectors, as the risk/reward is
much better to short the sectors with relative weakness in the S&P and Dow. In
addition to the Home Construction stocks, we still like Retail and Utilities on
the short side.

Today’s Watchlist:

There are no new "official" trade setups today, as we are near our maximum
buying power based on the model account size. Advanced traders, however, may
consider shorting DIA if it breaks below its 200-day moving average and SPY if
the S&P breaks its 50-day moving average.