SET Monthly Issue April 2012

| April 17, 2012

April 2012


After three straight months of gains, the stock market has seemed to hit some resistance.  And it brings us to a very important decision.

First, let’s look at where the markets stand…

After breaking through resistance last month, the S&P 500 average hit a new 4-year high of 1,422.  That represents a gain of over 12% for 2012.  However, the recent pullback has brought the S&P’s gain back to roughly 9.6% so far this year.

What’s more, the Dow Jones Industrial Average has seen a gain of around 6% in 2012.  With the DJIA just 300 or so points off a multi-year high, this rally is proving to investors it’s not a short-term fluke.

But is the recent pullback just a signal that a full-blown correction is on the way?

It’s quite possible, but not a guarantee.  Let’s take a closer look at the facts…

What’s clear is, US economic data appears to be heading in the right direction.  But not everyone seems to think the economy is growing as strong as needed to keep the rally moving higher.

Take for example the recent March US Non-Farm payroll report…

With analysts expecting a gain of 201,000 jobs, the numbers came in quite a bit weaker at 120,000.  In addition, new jobless claims last week rose to 380,000 versus the 359,000 forecast.  While it’s still progress on the employment front, recent jobs data has caused many bullish investors to consider if the economy is really as strong as we previously thought.

Well, one or two weak reports do not change the positive trend in employment…

And things get more complicated as other parts of the economy continue to surge. Take for example, US retail sales on Monday.  The Commerce Department released figures showing a gain of 0.8% in retail sales for March.  That follows a very strong 1.0% retail sales gain in February.

Clearly the uptrend in retail is building strength.  And it makes sense…

If employment is improving overall, consumers will have more cash to spend.  That’s just basic economics.  Even though some of the gains were due to higher gas prices, consumers still spent more to buy building materials, electronics, furniture, and clothing.

Better still, US companies restocked at a steady pace in February, indicating they believe consumers will continue to spend into the spring months.

All this spells one thing… the stock market is on the precipice of either a full blow correction, or a continuation of the rally.

Remember, even if data continues to be bullish, the stock market usually forecasts what the next six to nine months will bring in the economy and earnings.

And speaking of earnings, many analysts are expecting a lackluster earnings season. With earning season kicking off last week, we’re going to have to pay attention to what companies are telling us.

Remember, the easy earnings comparisons are over… and now companies must truly be growing both the top and bottom lines to beat a new set of forecasts.

If that happens, there’s no doubt we can see this rally continue.  But with the recent pullback and the handful of missed economic reports… it’s time to take a partially defensive position and add some safety.  This month’s ETF will allow us to do just that.


With the markets teetering on the brink of a full blow correction, there’s no doubt a defensive ETF is a smart play.  And we’d look at buying a traditional defensive sector, such as Consumer Staples, Utilities, Telecom, or Healthcare.

However, a straight out defensive play may not be the best move in this particular market.  Even if a correction is partially under way, we could see strong US earnings.  In addition, the positive flow of economic data may resume over the next few weeks.

If that happens, we’re going to see the rally resume.  Better yet, there’s a great possibility we see new multi-year highs… and we don’t want to be completely left out.

That’s why buying an ETF in a defensive sector using Small Cap stocks is a smart way to play this market.  In a rally, Small Cap stocks tend to lead the overall market higher.

Macro/Economic Trend:  Healthcare Provides A Defensive Play With Growth Potential

Once again, the past few weeks have brought about spotty economic data.  A number of forecasts have been missed, but other indicators seem to be showing signs of strength.

What does it all mean?

It means a smart investor should take a partially defensive position.  And right now, the healthcare sector provides us the ability to do just that.

As you know, the various industries in the healthcare sector are always in high demand.  Now more than ever, the demand looks to increase.  The reason is pretty clear… the largest generation, the baby boomers, are at the age they need more and more healthcare.

Remember, the healthcare sector is made up of many different industries. Some of these include:

  • Equipment & Supplies
  • Providers & Services
  • Pharmaceuticals
  • Biotechnology
  • Technology
  • Life Sciences Tools & Services

As you can see from the list above, some of these industries are more “defensive” than others.  For example, the steady flow of revenue from providers and services is a much more defensive industry than say, biotechnology.

One of the more important reasons healthcare is a smart defensive trade is the source of revenue…

As you’re probably aware, Federal and State governments are the major health care spenders.  They provide 46% of national health care expenditures… and nearly 75% of this is attributable to Medicare and Medicaid.

And this total looks to grow if “Obamacare” survives the upcoming Supreme Court decision.  The actual bill is known as the Patient Protection and Affordable Care Act. We should see a final verdict on the constitutionality of the law delivered sometime in June.

Either way the court decides, one thing’s for sure… Federal and State level spending will continue at an enormous rate.

That’s what makes healthcare a strong defensive play.

On the other hand, industries such as biotechnology and pharmaceuticals offer huge growth potential.  In fact, subscribers know first-hand about the explosive nature of the biotech industry.

Back in early February, we cashed in our biotech trade (FBT) for a massive 38.8% gain in just six short weeks!

So finding a defensive healthcare EFT, with the added exposure to the biotech industry… allows us to play it safe while having access to big growth.

To even further expand our access to large returns, this fund focuses on small cap healthcare stocks.

The bottom line…

In order to take a partially defensive position, we’re using the traditionally defensive healthcare sector, yet tapping into the growth potential of small cap stocks.

If either the rally continues, or a correction materializes, PowerShares S&P SmallCap Health Care Portfolio (PSCH) will allow us to profit.

Fundamentals:  A closer look at PSCH

PSCH looks to replicate the performance of the S&P SmallCap 600 Capped Health Care Index.

As of March 31st, PSCH holds 67 small-cap healthcare stocks.

The expense ratio for this ETF is 0.29%.

The top five holdings and percentage weights for PSCH are-

Company Name Ticker % Weight
Salix Pharmaceuticals SLXP 5.50%
Questcor Pharmaceuticals QCOR 5.02%
Cubist Pharmaceuticals CBST 4.82%
Centene CNC 4.28%
Zoll Medical ZOLL 3.93%

While most of the top five holdings are in the Pharmaceutical industry, many of the remaining holdings are in a number of other industries.  Take a look below…

Industry Allocation %
Equipment & Supplies 31.61%
Providers & Services 29.31%
Pharmaceuticals 20.44%
Biotechnology 7.83%
Technology 6.22%
Life Science Tools & Services 4.60%

Technicals:  The charts lead the way

PSCH retested the $33 support level and continues in an upward channel…


Since September, PSCH has rallied pulling back sharply a number of times.  Each time, the upward channel held as you can see with the orange line.

After re-testing a significant support level of $33 (blue line), PSCH looks set to rebound higher from here.

I expect to see PSCH resume its upward trend regardless of whether or not the overall stock market continues to rally.  There are enough defensive names in this ETF to protect us from significant downside.

Trade Alert

Buy:  S&P SmallCap Health Care Portfolio (PSCH) up to $34.25.
Recent Price:  $33.78
Price Target:  $40.00
Stop Loss:  $30.00

Remember:  PSCH is finding a great deal of support at the $33 level.  After a fast and aggressive correction, PSCH is set to capitalize on either a rally or pullback. That’s due to the mix of growth and defensive names in the ETF.  Buy PSCH up to $34.25.


Consumer Discretionary (+0.1%)

After a huge uptick in consumer spending in February, the retail numbers came in strong again in March.  In fact, Retail Sales figures grew by 0.8% in March… shattering analysts’ forecasts of 0.3%.

However, the overall recent market pullback limited the upside of this sector.

With employment steadily improving, we’re going to see lots of buying over the coming months.  And our SPDR S&P Retail Fund (XRT) is in great position to take advantage of the pickup in consumer spending.  Buy XRT up to $62.50.

Consumer Staples (+0.5%)

Even during the recent market pullback, consumer staples advanced modestly.  In fact, it was the best performing sector during the selloff.

It makes for a great defensive play, as well as offering stable, steady returns in any market environment.

CPI continues to rise, gaining 0.3% in March.  That’s after a 0.4% gain in February. Even though prices rose across the board in March, the cost of gas and oil is being highlighted as a major contributor to the headline number.

With food inflation rising 0.2% from February, PowerShares Dynamic Food & Beverage (PBJ) is on track to rise.  Continue holding for steady gains.

Energy (-8.8%)

With a major drop in oil over the past month, the energy sector is the worst performing sector this month.

In addition, natural gas prices continue to plummet… and now trade under the psychologically important $2 level.  As natural gas continues to make new decade lows, some analysts are predicting the carnage can continue.

Others, however, are paying close attention to the recent shutdown of many rigs.  You see, it’s no longer cost effective to produce natural gas.  And the decrease in production should lead to less supply… and therefore higher prices.

We’ll pay close attention to this sector, as a sharp rebound may be in order soon.

Financials (-3.1%)

After seeing three straight months of gains in financials, it was time for some consolidation.

In fact, some of the selloff in financials came over the reemergence of European debt fears.  It seems there’s quite a bit of concern about debt in Portugal and Spain yet again.

In addition, the latest data coming from the housing market can be seen as mixed, at best.  As a result, our iShares FTSE NAREIT Residential Plus Capped Index Fund(REZ) has given back some of our gains.  Overall, the housing market looks to continue improving in 2012. Keep holding REZ for more gains.

Now, the SPDR S&P Insurance ETF (KIE) lost the ground we gained last month in the selloff.  However, earnings season should provide more gains in the insurance industry. Continue holding KIE.

Healthcare (-0.7%)

Healthcare has continued to lag the overall market, and last month lost 0.7%.  If the recent rally loses steam, this defensive sector should see some big gains.

In addition, some of the industries in this sector are up for the year.  As a result, we just rolled out the PowerShares S&P SmallCap HealthCare Portfolio (PSCH).

Let’s look for gains from PSCH if either the market rallies or a selloff emerges.  Buy PSCH up to $34.25.

Industrials (-4.1%)

Industrials continued to slide last month, losing over 4%.  Much of the losses were due to the broad market selloff.

Interestingly, many speculative traders were positioning for poor economic data from China.  The fearful selling was out of concern over a “hard landing” for the Chinese economy.

This led to a selloff in many of the big industrial names, which are currently in theIndustrials Select Sector SPDR ETF (XLI).

The good news is, the Chinese delivered strong enough growth data to quell the fear of global growth falling apart.  As this sector continues to recover, let’s continue to buy this ETF. Buy XLI up to $38.25.

Technology (-1.9%)

The technology sector sold off a bit this month, losing nearly 2%.  After four straight months of gains, investors were inclined to take some profits off the table.

While we don’t like to see our trade lose ground, some profit taking is a good thing in a healthy rally.  And that’s what we have here in the tech sector.

With earnings season just under way, expect to see big numbers from the tech sector.  To profit, we’ll continue to hold the iShares S&P NA Technology-Software Index Fund (IGV).

Materials (-2.3%)

This past month, materials sold off with the broader market averages.  A great deal of selling came ahead of Chinese economic reports, including the latest GDP numbers.

But, as the data showed continued growth in China, materials regained some lost ground.

However, gold has struggled to regain the $1,700 level since February.  In fact, the precious metal is trading closer to $1,600 than $1,700.  And if we see US economic data strengthen, we may see gold fall much lower from here.

Overall, if global growth continues, we may see this sector pick up… even if gold does slide.  Right now we’re going to continue to avoid materials.

Utilities (-0.4%)

As expected, the utilities sector lagged the broad markets.  Since the overall trend continues to be bullish for growth, utilities may struggle to gain serious ground from here… even though power will be in demand as a result of the growth.

That being said, we’d normally cut the Utilities Select Sector SPDR Fund (XLU) loose.  But as a precaution to a much larger pullback, we’re going to hang on to this ETF for a little longer.  If the market corrects 10% or more from here, we’ll be glad we’re holding XLU.

For now, continue to hold XLU.

Portfolio Changes

  • This month we’re buying PSCH


Category: SET Monthly Issues

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