2 Strong ETFs in a Weak Market

09/09/2011 7:00 am EST

Focus: ETFS

Deron Wagner

Founder and Head Portfolio Manager, Morpheus Trading Group

Deron Wagner shares two picks for ETFs whose price moves do not correlate with the broader indices. In a downward trending market, that could be a productive strategy for investors, he tells MoneyShow.com. He also discusses some of the key technical signals he uses, and says a few very simple indicators are worth learning.

Kate Stalter: Today, we’re speaking with Deron Wagner of Morpheus Trading. He’s a noted author in the field of ETF and stock investing, as well as being a trader himself. Deron, welcome, and great to have you with us today.

Let’s start with some of your impressions of where the strength is in the current market. What do you advise individual investors to be doing right now? Are there any particular names or sectors that are jumping out at you?

Deron Wagner: Well that’s a challenging question, given the current market environment. There’s not a whole lot of strength, and I think that investors do need to be careful on the long side of the market in general. It’s kind of like dodging landmines out there. But there are a few select areas.

Let me just give you first a general thought, and then a more specific thought. Generally speaking, what we like right now is to look for positions that have a very low correlation to the direction of the overall stock-market indexes.

For example, ETFs that are in commodities, or currencies, or even bonds...all three of those types of sectors trade pretty much independently to the direction of the stock market, so that’s one way that somebody can still participate in the market without having a lot of risk of stocks falling apart, in general.

Specifically, though, we like right now the Japanese Yen ETF (FXY). That ETF has actually been consolidating near its high now for about the past month.

It just pulled back [last week], but that’s actually what we wanted to see. We wanted to see a little bit of a pullback to touch support at its 50-day moving average, to give us a lower-risk buy entry. But it’s in a nice steady trend, and it’s been pretty much oblivious to overall stock-market action.

Another such ETF with low correlation to the market is the PowerShares Agriculture Fund (DBA), which is an ETF comprised of agricultural commodities. This is another ETF that’s actually showing relative strength and has been trending up nicely, and just started to pull back. In fact [last week] it actually hit our buy entry price on this pullback to the 20-day moving average.

There’s not a whole lot out there. Gold and silver, of course, are probably relatively safe bets, but they’re a bit extended right now from where we’d like to buy them. In fact gold may be forming a double top from its prior high, looking back several weeks ago, so that’s probably not something we’d be looking to buy at this time.

Kate Stalter: Obviously, there are a number of areas breaking down and showing complete weakness at this moment. But are there any sectors or maybe global regions or asset classes that you would say to stay away from? Where you don’t advise trying to shop for a bargain right now?

Deron Wagner: Well, I think that’s pretty much the case with most of the European indexes. We trade technicals. We look at chart patterns.

The technicals are formed based upon what’s happening in part geopolitically, so we’ve got a lot of economic problems in Europe right now and that’s reflected in the chart patterns. The charts are so damaged it doesn’t look like it’s going to be bouncing back anytime soon. If we’re looking for areas to stay away from globally, that’s one area for sure.

Conversely, though, some of the emerging markets—including Asia, for example—have less debt and less problems and they’re showing a lot more relative strength. In terms of regions, that’s one.

In terms of sectors, I would say in the financial sector there are so many. Every day you turn on the news, there are so many things going on that are just damaging the financial stocks.

Again, talking purely technicals, they’re all so damaged and near their lows that it would take many, many months for them to even start to come back up again for anything meaningful, more than a day or two-day bounce. Unless you’re a really short-term trader, those are sectors that’s it probably way to early to be trying to bottom pick.

Kate Stalter: Since you are a technical trader, I just wanted to ask you one last question here today, Deron. What are some of the indicators that you use, that you recommend that investors and traders learn about, in order to build some strong watch lists?

Deron Wagner: My methodology is actually very simple. In fact, it's probably more simple than technical traders I know.

There are hundreds of technical indicators out there, and we use pretty much the most basic ones, which are price, volume, moving averages, trend lines and prior levels of support and resistance. Moving averages, trend lines and support and resistance—they’re all pretty much the same thing, but basically that’s what we use.

Within that though, more specifically, I would recommend that investors should definitely use the 50-day simple moving average as an indicator, because many institutions like banks and mutual funds and hedge funds use the 50-day moving average as a guideline for when to buy stocks that pull back, or when to sell stocks when they’ve broken below that level.

As a result, markets tend to follow what institutions are doing. That’s why it’s very important to know what the institutions are doing, and following the 50-moving average is a good way to do so. It’s a good intermediate-term indicator of trend as a general rule.

For a general rule, we don’t look to be buying stocks unless the stocks are above the 50-day moving averages and we don’t look to sell them short unless they’re below their 50-day moving averages, so it’s a good real general guideline that’s easy to understand and easy to follow if you’re new to technical trading.

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