Leadership is coming from the defensive groups

Sentiment had gotten to quite a historically low level over recent weeks, and usually some kind of rally develops off of such overdone sentiment levels. The problem is that there are so many crosscurrents in this environment that one is hesitant to use one indicator to position when the rest of market indicators are not clear in signals. A rally of sorts seems to have started and is trying to establish itself. TWO 80% up days have developed and upon a third one and follow-through day, investors should keep their eyes on our daily listed Top RS New Highs list for potential breakouts.

Quite a while ago we mentioned that one of our favorite hideouts from the market was the spread between Large-cap value and small caps – which continues to do very well. This is a defensive capitalization play. This week however defensives exploded to the fore as the only real upside leadership this market has. Top sectors include Utilities, bonds, Pharmaceuticals, Telecoms, oils, and Staples – all DEFENSIVE GROUPS. Weak sectors by our analysis are housing, retail, consumer discretionary, general merchandise, internet, and tech. Aggressive traders wanting action could seek to spread stronger defensive groups over weaker groups in this environment.



One of our favorite ways to play this is via PPH/SPY – the spread of pharmaceuticals over the S&P (or over a basket of weaker sector iShares). Pharmaceuticals have bottomed on a relative strength basis after years of underperformance both on daily and weekly charts and seem to gain on the market whether it is up or down. Count this as another cautious way of playing the current environment we like in addition to Large Cap Value over small caps.



Yet investors should realize that this is a TREACHEROUS ENVIRONMENT where CAPITAL PRESERVATION SHOULD BE PARAMOUNT. The up and down nature of this market is shocking even to us, and this can be a real grind on capital if you are not careful. Most investors are advised to sit on the sidelines until the environment improves.



Our US selection methods, our Top RS/EPS New Highs list published on TradingMarkets.com, had readings of 16, 5, 19, 31 and 25 with 8 breakouts of 4+ week ranges, no valid trades meeting criteria, and no close calls. This week, our bottom RS/EPS New Lows recorded readings of 34, 92, 17, 14 and 21 with 17 breakdowns of 4+ week ranges, no valid trades and no close calls. The “model” portfolio of trades meeting criteria has some time back exited all positions and is 100% in cash.



Sometimes the sidelines are the best place to be. We suspect we’re still in one of those times. Conflicting forces continue to grow, and high odds sustainable moves don’t appear likely to materialize just yet. Until they do, we suggest mostly keeping your powder dry and watching events transpire closely.



Mark Boucher has been ranked #1 by Nelson's World's Best Money Managers for his 5-year compounded annual rate of return of 26.6%.

For those not familiar with our long/short strategies, we suggest you review my book "The Hedge Fund Edge", my course "The Science of Trading", my video seminar, where I discuss many new techniques, and my latest educational product, the interactive training module. Basically, we have rigorous criteria for potential long stocks that we call "up-fuel", as well as rigorous criteria for potential short stocks that we call "down-fuel".

The “2006 Investment Roadmap” is also my best effort at explaining the top secular themes that every trader should be focused on in their portfolios. A special offer of this exclusive report is available to TradingMarkets.com clients at www.midasresourcegroup.com. So far the groups highlighted in the 2006 Investment Roadmap are exploding in value and appear set to continue to do so.