Financials Falter as Sectors Break Down

11/24/2008 5:22 pm EST

Focus: ETFS

Jim Farrish

Founder and CIO, Jim's Notes

The financial challenges facing the investment markets aren't going away and in many respects are getting worse.

Scanning the markets from last week, we find that financials were the biggest loser by far. The Standard & Poor's Financial index lost 24% last week alone; before Friday's rally, the index was down more than 32%. Wasn't the $700 billion Congress authorized in the Troubled Assets Relief Program (TARP) supposed to solve this matter?

As I've said several times, the problem is bigger than the $700 billion; it really revolves around confidence in the system. Currently that confidence is in trouble. After treasury secretary Henry M. Paulson, Jr. announced his change of mind towards buying troubled assets, the sector has moved lower.

The London Interbank Offered Rate (Libor) three-month rate (the rate at which global banks lend to each other) has stagnated at 2.15% after declining steadily following the initial passage of the bailout package. The ten-year Treasury bond has fallen to 3.15% and the two-year note dipped below 1% for the first time in history. The fear factor has crept back into the sector, eroding confidence.

The lack of confidence in the financial sector has bled over to the real economy, spurring speculation about how long the recession will last. Thus, four and a half days of selling led to all the major sectors ending in the red with the exception of utilities, up 0.1%. Energy was hit hard as well, with crude falling below the $50 mark. Speculation now is putting crude at $40 before year end (although crude prices rallied nicely in Monday's early trading). The consumer services sector was down 8% as expectations for a slow holiday season continues to be priced into stocks. This all goes back to the confidence issue for investors: Stocks are priced based on the future, and the future is not looking very good.

Last week I posted a table with the break points for support on ETFs representing the major sectors and broad market indices. Here it is again:

By last Thursday we had moved below most of these points mentioned in the table. However, the rally Friday helped some bounce back above support. This creates an opportunity to bounce higher or confirm the down side break if the market moves lower. There is some momentum heading into the week, but there also is an avalanche of economic data on tap, which I don't expect to be helpful. This puts investors at a key decision point: Will the indexes hold support, or should investors sell and move towards the next level of support (2002 lows)?

This week I am looking for a bounce in financials from an oversold state technically. Utilities are attractive, and I am expecting a strong move higher confirming a short-term opportunity. Energy and basic materials are oversold as well. The gain of more than 11% on Friday showed there is money ready to be put to work in the sectors. There could be a pullback to start the week and then a move higher.

Precious metals are another area to watch with gold moving near the $800 mark. Look for a pull back early and then a resurgence back above $800, presenting an opportunity to play. These opportunities are short term and any plays need to be made with a disciplined strategy. Define your entry, exit, and target before investing.

Jim Farrish, founder and editor of Melbourne, Florida-based SectorExchange.com, writes regularly about sectors and speaks widely about investing and money management.

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