When investors hear the term “industrials” they often think of the Dow Jones Industrial Average. However, the Dow of today is far from a measure on the industrial sector of the market and the economy. Just look at its components, which include Visa (ticker: V ) and Disney ( DIS ).
So while the Dow is still officially in a trading range, the Select Sector SPDR Industrials exchange-traded fund ( XLI ) is in serious retreat. And that does not bode well for the market and arguably for the economy a few months down the road.
Though dominated by General Electric ( GE ) with its 10.2% weighting in the ETF, XLI still gives a good representation of what is happening to the sector. Peaking in February, the ETF has lost roughly 9% through Monday’s trading (see Chart 1). And this month, it joined utilities, energy and basic materials as the only ones with moving average death crosses in place. Each has its 50-day average below its 200-day average and that is not a healthy condition.
But the bad news on the technical front does not stop there. In June, it moved below chart support and during the market’s July rally it managed to reach that level once again – where it was unceremoniously stopped and fell away in a hurry. That is a classic example of a technical breakdown and test. Bears missing their chance to get out in June rushed in to sell when they had their second shot in July.
Last month, about two weeks before the industrial ETF broke down, I wrote here that industrial metals miners, including copper miners, were acting bearishly (see Getting Technical, “Industrial Metals Slump Threatens Stock Market,” June 15). I called the entire basic materials group, which includes industrial metals, chemicals and “other companies that supply the basic inputs needed for manufacturing and other business efforts,” the bottom of the economic food chain. If that is true then industrials are the next level up.
Weakness in basic materials seemed to lead directly to weakness in industrials and, taking that to its logical conclusion, that weakness should continue to spread. After all, other sectors rely on the industrial sector for their own inputs.
The industrial sector is quite diverse and includes such industries as transportation, aerospace, commercial vehicles and heavy construction. Based on the Dow Jones U.S. sector indexes for each, the trends are down and the charts rife with breakdowns.
The plight of the transportation sector is well known among even casual market enthusiasts. But last week’s earnings reports from such Dow components as Caterpillar ( CAT ) and 3M ( MMM ) certainly brought the rest of the sector’s weakness to the fore.
Pundits will give the economic slowdown in China credit for at least some of the industrial’s decline. Indeed, the rapid drop in the Shanghai composite index since mid-June punctuated by Monday’s 8.2% thrashing agrees.
But what I find more interesting is that the last time the market suffered a significant correction, aside from last year’s Ebola-inspired mini-panic, the industrials broke down first. That was in the summer of 2011 and the industrial sector broke down about a week before the broad market did (see Getting Technical, “Industrial Stocks Are Shutting Down,” August 1, 2011). Although we cannot make a rule out of so few observations, it probably is a good idea to keep cash levels higher than normal.
From the long-term view, the industrial ETF is now approaching a Fibonacci 61.8% retracement of its October 2014-February 2015 rally. It has already dipped below the major trendline drawn from the end of the 2011 correction although given the elapsed time and price movement involved I do not think this was a breakdown - yet.
Should the sector keep falling, the breakdown would be undeniable and a move back to the October 2014 low would be in cards. That would be a drop of roughly 7% from current levels.
Can it get there? That remains to be seen but it does seem that this is a weak sector without any technical reason to change anytime soon.
When investors hear the term “industrials” they often think of the Dow Jones Industrial Average.