Relative Strength Part 1

Relative Strength is defined as by investopedia as: A measure of price trend that indicates how a stock is performing relative to other stocks in its industry. It goes on to say: It is calculated dividing the price performance of a stock by the price performance of an appropriate index for the same time period.

There are actually two kinds of Relative Strength as far as my mind understands the concept. In the context of price performance we can have Relative Strength as a measure of price performance relative to some other index.

For example, lets take a look at Agilent Tech Inc. The symbol for Agilent Tech Inc is “A” and it is the first member, alphabetically speaking, of the S&P500 Index. Mathematically, we could write its Relative Strength as follows:

RS = (price change for A over N # of days) / (price change for SPX over N # of days)

This is the definition given by investopedia above and is graphically represented by a performance chart. Here I used SPX as the symbol for the S&P500 index.

Lets take a look at this graphically. The first chart show the 3 month price of Agilent Tech Inc. This stock has gone from approximately 30 to 35 over the last 3 months which is an increase of approximately 5/30 or 16%. Click on charts to enlarge.

Next, lets look at the SPX. It has gone from approximately 1330 to 1240 which is a decrease of 90/1330 or 6.7%.

Finally, look at the comparison chart for Agilent Tech Inc and the SPX. It shows the Relative Strength of Agilent Tech Inc compared to the SPX. This is a price comparison chart over time showing Agilent Tech Inc “Beating the Street”.

The other type of Relative strength is price performance of a stock relative to itself. I will discuss this in greater detail in my next post.

Sector Rotation and the Economy

There is an excellant article in the ChartWatchers newsletter by John Murphy entitled Sector Rotation Says Bearish. John Murphy is well known to students of market techical analysis. His book Technical Analysis of the Financial Markets is one of the best on the subject. The diagram below shows how the stock market, depicted by the red line in the diagram, preceeds the cycle of the economy which is represented by the green line. Stocks lead the economy. At this point in time the energy sector is at a high and the financials are at a low indicating we could be in that early recession phase of the economy. For a 65 day performance chart of the sectors see here.
Click on diagram to enlarge.

Beating the Street

Peter Lynch started management of the Megellan Fund with Fidelity Investments in 1977 with $18 million in assets and by 1990 the fund had grown to more than $14 billion in assets. He has also written three texts on investing: One Up on Wall Street (ISBN 0671661035), Beating the Street (ISBN 0671759159), and Learn to Earn.

Using the idea that the performance of the S&P500 is the “street” lets take a look at some of the ETF’s that “beat the street”. From my last post I gave a link to the Yahoo ETF Center. From there is a link to Performance which lists the ETFs which can be sorted by YTD column. Excluding the ultra short ETFs, to get an idea of what is really going up, the top performers are GAZ, UNG, JJC, and JJM.

GAZ is the iPath DJ AIG Natural Gas TR Sub-Idx ETN. This fund is designed to reflect the performance of natural gas. UNG is the United States Natural Gas ETF. This fund also is designed to reflect the performance of natural gas. JJC is the iPath DJ AIG Copper TR Sub-Idx ETN. This fund is designed to reflect the performance on copper contracts. Finally, JJM is the iPath DJ AIG Ind Metals TR Sub-Idx ETN. This fund is designed to reflect the performance of industrial metals.The index is composed of four futures contracts, aluminium, nickel, zinc, and copper.

The table below shows the performance of these top performing funds sorted by the YTD column. With the "Street" down 12.85% as reflected by the SPY index, GAZ looks pretty good up 66.73%. Click on table to enlarge.

Exchange-Traded Funds

Sector rotation is defined as a trading pattern in which money is shifted from one sector of the economy to another. The so called “Smart Money” moves to sectors and asset classes that are appreciating in value. But how is this done? Not all sectors of the economy perform well at the same time. Sector rotation is a portfolio managers attempt to profit through timing a particular economic cycle. Yahoo finance has a list of some 739 ETFs in its Exchange-Traded Funds (ETF) Center which can be found here . Take a look. I will be writting more about these ETFs in coming days.

Elliott Wave Revisited

Elliott Wave patterns show up in different timeframes and are a fractal pattern based on a 5 wave count. The basic pattern is 3 steps forward and 2 steps back (or 3 step backwards and 2 steps forward in a downtrend as shown below) after which there is a reversal of trend or a 3 wave consolidation pattern known as an A-B-C correction.

This pattern is one you must look out for and many market analyst have gone to great lengths to identify this pattern. I have mentioned Elliott Wave many times before, see here, here, and here. It has been successfull in calling cyclical changes in the market. The 3 month daily chart below seems to me to have made a 5th wave low. We could now be in for a change of trend(a rally) or a consoldation pattern before heading to new lows. We will just have to wait and see. Click on chart to enlarge.
Addendum: Wave count correction
While leaving the chart above as an example of a wave count error, I would like to add that it was a mistake on my part for seeing a 4th wave and that in fact we are still in a 3rd wave down. I have noted this by drawing the red broken line. The 4th wave is usually very choppy and would last longer than I have shown here.

Indicator Development

Now that I have more time I will be actively developing new indicators for market analysis. This indicator below changes both the bar and the background color ot the chart for easy visual reading of market trend – green for up and red for down. My goal is to make the chart easier to read in all time frames. Naturally, we want to trade in the direction of the trend of the longer timeframe while using the shorter timeframe for entry and exits. The current trend is down on the daily timeframe. Click chart to enlarge.

Market Summary

For the past week Gold was down the most followed by the International iShares EFA. Other markets were essentially flat. Click on table to enlarge.