Sunday, May 29, 2016

Index Analysis and Voodoo Science:

Technical analysis gets into trouble when the art from migrates from the study of stocks, commodities and currencies and into the price forecasting of the major stock indices such as the S&P/TSX Composite, the S&P500 or the NASDAQ Composite.

Not a day passes when some technician looks at a major stock index and sees a head & shoulders top, support or resistance at so-and-so level, a double top or a double bottom.  Pile on seasonality, moving averages, price momentum, historical comparisons and you get an index forecast that may be correct – about one-half the time.

The problem is that a major stock index is a basket of diverse sectors (like financial, energy or consumer) that – for the most part – do not advance and decline at the same time. Remember the great dot-com bust of 2000-2002? It was a non-event if you owned financial and energy stocks. Our own TSX Composite is dominated by three sectors – financial, energy and materials. If you add in the industrials we have about 76% if the index covered.

Our chart – the monthly bars of the TSX Composite spanning about 10-years. Note the two great advances that followed the 2007-2008 financial crisis collapse. The 2009-2011 advance was lead by the financials (XFN), energy (XEG) and materials (XMA). The second great advance of 2012-2014 was lead by the financials (XFN), energy (XEG) and index heavy-weights BCE, CNR and VRX. Now we have a pending third advance to be lead by (once again) the financials (XFN) and energy (XEG). The materials sector looks weak but a strong industrial sector (ZIN) may do some lifting to bost the TSX Composite at least back to the 2014 highs of the 15600 level.

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