SET Monthly Issue July 2011

| July 19, 2011

July 2011


Prepare yourself for a bumpy ride… because stocks are stuck in the 24 hour news cycle.

It’s a story that’s played out time and time again this summer.  One day stocks are up with good news.  And the next day stocks are down on bad news.

In short, macro themes are dominating the stock market’s movements.

I’m sure you’ve seen the headlines.  The two big ones are the European sovereign debt crisis and the US debt ceiling.  Obviously, a lot is riding on how these two events are handled.  There’s a real risk one of them could cause a major shock to the financial system.

And as long as these “black swans” linger, it will be difficult for the market to regain its bullish momentum.

But that’s not all…

There are other macro stories impacting the markets.  Take the Fed for example.  We know QE2 ended… but is there a possibility of QE3?  A new round of quantitative easing could send the market soaring.

The point is every time the macro storylines zig, stocks zag.

As a result, we’ve seen the markets settle into a comfortable trading range.  For the most part, the S&P 500 has spent 2011 bouncing between 1,250 on the low end and 1,350 on the high end.

And as we roll through the dog days of summer, I’m turning more bullish by the day.


Simply stated, I think second quarter earnings will get investors’ attention off the headlines and onto the fundamentals.  And right now the fundamentals are a compelling reason to buy stocks.

According to S&P’s Capital IQ, S&P 500 companies are expected to increase Q2 earnings by 15.6% year over year.  That’s impressive growth any way you slice it…
If the actual earnings live up to the analyst hype, investors will have no choice but to put their fears aside and buy.

Here’s the bottom line…

I’m not expecting economic growth to blow the doors off in the second half.  But we’re not falling into a recession either.  And as long as we avoid a “black swan” event, we’re likely to see bullish fundamentals power this market higher.

In keeping with my bullish outlook, I’ve got two ETFs for you that should take off like a freight train when bullish fundamentals take over.


It’s no secret the US economy is built on the strength of consumer spending.  In fact, two thirds of US GDP comes from retail sales.

Obviously, there’s a lot riding on consumers spending money.  As a result, data about consumer behavior are some of the most highly anticipated economic indicators.

However, there’s been a lot of noise in the data lately.  And it’s led some investors to misinterpret certain pieces of economic data.

Macro/Economic Trend:  High End Retail Is Red Hot

Leading indicators like consumer confidence can tip us off to coming changes in consumer spending.

Consumers typically spend more when confidence is high and less when confidence is low.  So, when we see confidence rising, we expect more spending to follow shortly. And when confidence dips, we expect consumers to spend less.

The problem is this… consumer confidence is an imperfect indicator.

You see, confidence is easily impacted by political events and gas prices.  In other words, the data is skewed by negative feelings about the (insert expletive here) politicians in DC and that it costs so much to fill up at the gas pump.

With that in mind, it shouldn’t have come as a surprise consumer confidence plunged in July.  The July University of Michigan Consumer Sentiment Index dropped from 71.5 in June to 63.8 in July.  It’s now at its lowest level since March 2009!

But here’s the key…

It’s at times like these consumer sentiment is a bad predictor of future spending.  The drop in confidence reflects the concern about the debt ceiling.  But these concerns will not stay at the front of everyone’s minds for long.

In fact, we’ll likely see consumer confidence spike once an agreement on the debt ceiling is reached.

With so much noise in the sentiment data, I’m looking to the monthly sales figures to shed more light on the retail industry.  And I have to say, I like what I see…

June retail sales grew at 0.1% after declining 0.1% in May.  Growth of 0.1% may not seem like a big deal.  But considering everyone was expecting sales to drop 0.2%, I’d say any growth at all is a huge development.

What’s more, before May’s drop, retail sales had grown for ten straight months.  Now it looks like the 0.1% dip in May could be as bad as it gets.  And we could be in store for another surge in spending like we saw last year.

As I dug deeper into the retail sales figures, one overwhelmingly positive trend emerged.  Department stores, electronics, and sporting goods are leading the way higher.  These are typically high-end retailers selling more expensive items to wealthier customers.

The way I see it, if wealthier consumers who benefit the most from higher stock and commodity prices can fuel consumer spending, then we could see this recovery pick up steam.

Think of it this way.  The Fed and the federal government have been trying to stimulate the economy for months.  And if consumer spending ramps up again without another round of stimulus, it could mean the economy is finally healthy enough to grow on its own.

And despite the long odds, it will be the resilient consumer who will finally fuel a strong economic expansion.  And we’ll finally be able to take our economy off of life support. Let’s buy the SPDR S&P Retail ETF (XRT) now to profit from the coming surge in consumer spending.

Fundamentals:  A closer look at XRT

XRT holds 95 retail stocks.  The ETF tracks the S&P Retail Select Industry Index.  It’s an equal weight index.  That means all 95 stocks have an equal impact on the ETF.

The expense ratio is 0.35%.

The top five holdings and percentage weights for XRT are –

Company Name Ticker % Weight
PriceSmart PSMT 1.34%
Genesco GCO 1.27%
Stage Stores SSI 1.26%
Wet Seal WTSLA 1.26%
Asbury Automotive Group ABG 1.22%

Technicals:  The charts lead the way

XRT is exhibiting relative strength to the broad market.  In other words, when the S&P 500 goes up, XRT goes up more.  And when the S&P 500 falls, XRT doesn’t go down as much.

Relative strength is an effective way to identify sectors favored by investors.  And ETFs with relative strength usually continue to outperform in the future.

As you can see, XRT is in a strong, upward trending price channel.  It has continued to set higher highs and higher lows.  Simply put, this a very bullish long term uptrend.


What’s more, XRT set a new all time high of $56.44 on July 7th.  This means there’s no technical resistance from prior highs to contend with.

No doubt about it, XRT looks like a great buy right now.

Trade Alert

Buy:  SPDR S&P Retail ETF (XRT) up to $57.00
Recent Price:  $53.74
Price Target:  $65.00
Stop Loss:  $49.00

Remember:  XRT is in a strong uptrend and a great buy at these prices. But we could see it pullback to the lower end of the upward trending price channel around $51. If you want to try to squeeze a little more out of this trade, you may want to wait for the pullback. But remember, XRT may not pullback and you could end up missing out if XRT takes off again. Either way, I think XRT is set up to be a huge winner.


Not too long ago, rare earth elements or REEs were relatively unknown.

Now this group of 17 elements has shot to the forefront of international politics.  And it’s creating a very profitable investment opportunity in this niche industry.

Let me explain…

Rare earth elements are critical to the development of many new technologies.  Some of today’s most exciting and essential technologies depend on rare earths to function properly.

For example, rare earths are essential building blocks for green technologies like fuel cells and wind turbines.  They’re also found in many critical defense systems and consumer electronics.

But there’s a catch…

Macro/Economic Trend:  Chinese Monopoly

Over the past few decades, the REE industry has undergone some radical changes. The most important change is the rise of Chinese REE production.

Back in the ‘80s, the Chinese government fueled the rapid development of REE mining operations with subsidized loans… loans that were never intended to be paid back. These loans were a way to provide employment and promote social stability.

As production rates grew, China was able to undercut the prices of other producers around the globe.  Eventually the Chinese drove nearly all of the competition out of the market.

Today, China produces 95% of all Rare Earths.

Here’s the problem…

After driving out the competition, China began to cut back on REE exports.  They started slowly, cutting just 5% to 10% in 2006.  Then last year they slashed their export quota by a stunning 40%.  And now in 2011, they’ve shrunk exports by another 35%.

The result…

REE prices have skyrocketed.

But as the old saying goes, in adversity lies opportunity.  Businesses and governments around the world have set out to secure non-Chinese sources of REEs.  Those companies able to supply REEs stand to make a killing.

And of course, I’ve got the perfect ETF to profit from this trend.  The specializedMarket Vectors Rare Earth/Strategic Metals ETF (REMX) is a unique ETF.  It’s designed to invest directly in the companies developing new sources of REEs.

Fundamentals:  A closer look at REMX

REMX holds 26 stocks from around the globe.  Each is involved in mining, refining, and/or manufacturing rare earth materials.

The expense ratio is 0.63%.

The top five holdings and percentage weights for REMX are –

Company Name Ticker % Weight
Iluka Resources ILU AU 8.91%
Kenmare Resources KMR LN 8.10%
Lynas LYC AU 7.19%
Molycorp MCP 6.38%
Thompson Creek Metals TCM CN 6.09%

Technicals:  The charts lead the way

REMX is a relatively new ETF.  It only began trading on October 28, 2010.  But since then, the chart has developed a bullish set up.

You can see REMX shot up more than 40% from the time it began trading until the April high of $28.91.  Since then, REMX has consolidated as it pulled back to the uptrend (blue line).


Now the consolidation has retraced 50% of the November to April surge.  And we’re seeing buyers step in as REMX tests support where the uptrend meets the 50% retracement level.

Bottom line… REMX is a fantastic buy right now.

Trade Alert

Buy:  Market Vectors Rare Earth/Strategic Metals ETF (REMX) up to $26
Recent Price:  $24.36
Price Target:  $35.00
Stop Loss:  $20.00

Remember:  Demand for REEs is through the roof.  And the recent consolidation is providing us with an attractive low-risk entry point.  Grab you shares now before REE companies take off again.  Because once REMX clears resistance of the short term downtrend, it should be off to the races.


Consumer Discretionary (+6.2%)

Retail sales surprised to the upside in June.  They grew a modest 0.1% from May.  But it was much better than the 0.2% decline economists were expecting.

The positive outlook for high-end retailers in the second quarter earnings prompted me to jump back into retail stocks.  We’re recommending the SPDR S&P Retail Fund(XRT) this month… see Trade Alert 1 for more details.

Consumer Staples (+0.7%)

Consumer staples temporarily lost some momentum in June.  But a strong Q2 earnings outlook is bullish.  Again, we should see high-end retail carry the sector forward… but only if higher commodity prices don’t pinch margins.

Our Consumer Staples Select Sector SPDR Fund (XLP) paid a 21 cent divided on June 17.  The recent pullback has retraced 50% of the previous surge.  Now XLP is in position to push for a new 52-week high.  Continue holding for bigger gains.

Energy (+7.2%)

Energy stocks have stabilized.  And over the last few weeks, they’re even building some bullish momentum.

The price of crude oil is a big reason why.  A barrel of West Texas Intermediate has settled in between $95 and $100.  And a solid outlook for second quarter earnings could put a bid underneath the sector.

If the goal of releasing $2 million barrels of oil per day from the Strategic Petroleum Reserve was to stabilize oil prices… then it appears to be mission accomplished.  But what will happen once they start refilling the strategic reserves?  It could drive crude prices higher long term.

Financials (-0.3%)

Financial stocks are trending down.  Simply put, it been an ugly five months of losses. And until housing turns around, there’s not much hope for the banks buried under bad mortgages and foreclosed properties.

One bright spot has been the iShares FTSE NAREIT Residential Plus Capped Index Fund (REZ).  Rents are rising and demand for rental units is driving down vacancy rates.  That’s great news for residential REITs.  Just last week REZ hit a peak gain of over 16%!  Continue holding for bigger gains ahead.

Healthcare (+1.2%)

Healthcare stocks are trending higher.

The second quarter earnings outlook for the industry calls for 4% earnings growth. With such a low hurdle to clear, I wouldn’t be surprised to see earnings come in better than expected.

Our two most recent healthcare related ETFs are in a similar boat.  They’re both consolidating near their recent highs.  The SPDR S&P Biotech ETF (XBI) and thePowerShares S&P SmallCap Healthcare Portfolio (PSCH) are still trading below our buy up to prices.  So, go ahead and buy these two ETFs if you haven’t already.

Our iShares Dow Jones US Healthcare Providers (IHF) is beyond our buy up to price.  Continue holding for bigger gains ahead…

Industrials (+3.1%)

Industrials are up slightly.

But the looming global industrial slowdown is lurking in the background.  It makes investing in manufacturing stocks dicey to say the least…

However, the agricultural space is riding a wave of enthusiasm spurred by high farm income and a large spring planting season.  We should see demand for fertilizer and equipment accelerate in the fall.  And our Market Vectors Agribusiness ETF (MOO) is perfectly positioned to profit from this trend.  Continue holding MOO for bigger gains ahead.

Technology (+6.1%)

Technology stocks are quickly regaining favor with investors.

But the reality is tech stocks have been stuck in neutral for most of the year.  One reason for the weakness is tepid analyst growth estimates this quarter.

However, the low bar could set the stage for tech stocks to deliver better than expecting earnings.  If they do, look for tech stocks to rally.

Materials (+8.0%)

Materials stocks continue to ping pong between the high and low ends of their trading range.  This month they pinged higher by 8%…

Over the last few weeks, gold surged to an all time high of $1,600 an ounce.

Obviously, the higher gold prices go, the more profitable gold miners become.

Not surprisingly, one area of strength in the materials sector should be gold and precious metals miners.  That bodes well for our Market Vectors Gold Miners ETF(GDX).  Continue holding GDX for bigger gains.

However, our First Trust ISE Global Platinum Index Fund (PLTM) closed below our stop loss last week.  If you haven’t already, go ahead and sell PLTM now to conserve capital.

We’re also adding another group of mining stocks this month.  The companies in theMarket Vectors Rare Earth/Strategic Metals ETF (REMX) specialize in rare earth elements… see Trade Alert 2 for more details.

Utilities (+1.1%)

Utilities are looking good for a run higher in the second half of the year.  That’s good news for our Utilities Select Sector SPDR Fund (XLU).  Remember, the third quarter typically has the most cooling days.  That will add to power consumption.  And the more power customers use, the more money utilities make.  With XLU still trading below our buy up to price, go ahead and buy it up to $34 if you haven’t already.

Portfolio Changes

  • This month we’re buying XRT and REMX
  • Sell First Trust ISE Global Platinum Index Fund (PLTM)
  • Move Market Vectors Gold Miners (GDX) to hold


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