May 21, 2015
Hated Sector Gives Its First
Buy Signal in Nearly a Year
By Tom Vician, CMT
Last week, I was surprised when my system designed to spot stocks on the verge of a breakout gave a buy signal for a stock in one of the most hated sectors of the market.
It's been a very long time since this dormant sector produced a buy candidate, but its boom-and-bust nature can produce huge winners. Subscribers to my premium Alpha Trader service rode one stock in this group to a 135% gain last year, making it our second largest winner.
We are seeing green shoots sprout in the commodity-driven natural resource sector, and this could be the start of a long and persistent run in some very beaten-down stocks.
Commodities are reflecting the nascent but aggressive pickup in inflation. The chained consumer price index (CPI) for all urban consumers showed a 1.2% rate of inflation from its January low, which annualizes to a 7.2% rate. This metric is considered to be a good representation of the general public because it accounts for nearly 90% of the population.
Bond yields have risen sharply in response. Over the past month, the yield on the benchmark 10-year Treasury note is up 18%. This is one of the most extreme jumps since 1962.
Warren Buffett recently stated that "bonds are very overvalued" and would short them if he could. Falling bond prices mean rising yields. Billion-dollar hedge fund guru Bill Ackman is sour on bonds, as well.
There is a specific intermarket relationship during periods of increasing inflation. It shows that as inflation rises, both bond yields and commodity prices rise together. Eventually, rates rise enough to choke off inflation, and commodities fall.
There is plenty of evidence on the charts to support a turnaround in the natural resources sector.
The broad-based PowerShares DB Commodity Tracking ETF (NYSE: DBC) shows a bullish double-bottom reversal pattern. It made a short-term higher high confirming a new change in the near-term trend. It has a lot of room to run before hitting meaningful resistance.
Not all commodities currently look ready for a turnaround. Gold's chart, for example, remains on a sell signal.
But it's in one industrial metal where I uncovered the first buying opportunity in this sector in months.
The chart of the iPath Bloomberg Aluminum Subindex Total Return ETN (NYSE: JJU) shows it looks set to bullishly resolve a wedge pattern.
The sell-off in Treasuries also bodes well for the subsector, as aluminum prices tends to rise as bond prices fall.
I base all of my buy and sell decisions on an indicator known as the Alpha Score. If you want to know the ins and outs of this powerful indicator, you can check out this presentation.
For our purposes today, you basically need to know that every stock has an Alpha Score, and it can range from 0 to 200 -- the higher the score, the better. It is based on two proven indicators -- one technical and one fundamental -- and it provides a way to rank every stock in the market from best to worst.
For nearly eight months, the Alpha Score has not signaled a single buy in the natural resources sector. During that time, however, it did peg a 46% winner in an international pharmaceutical giant, a 55% winner in the biotech sector, and a 77% winner in a video game maker, just to name a few.
One of the benefits of the Alpha Score, which is based on one of the most lauded and accurate technical indicators available to traders, is that it also keeps us out of falling sectors that are going to keep falling. We've all felt the urge to try to catch a falling knife, hoping it will miraculously miss a major artery and we'll be the lucky ones to buy at just the right time and rake in huge profits. The outcome is usually a whole lot bloodier.
The Alpha Score system helps protect you from this. It does not signal buy until a stock has proven it actually has the momentum to stage a turnaround.
So, after months and months of avoiding the plummeting natural resources sector, which stock is the strong enough to be the first buy candidate in nearly a year?
It's Aluminum Corporation of China (NYSE: ACH), and it is sporting a stellar long-term technical setup.
This company makes alumina and aluminum products for domestic Chinese and international consumption. Fundamentally, it is a turnaround play. For a number of years, the stock (and sector in general) has undergone a severe secular downtrend. But that appears to be changing.
ACH's fundamentals have just begun to turn the corner. In Q1 2015, the company posted positive earnings for the first time since December 2013.
Additionally, ACH will benefit from China's development of a quantitative easing program. News of this new program shot the Chinese stock market to seven-year highs in April, while ACH surged 29% during that time, showing its strongest price momentum in five years.
The chart shows this was a huge long-term shift in momentum from a multiyear basing structure.
Long-term basing structures create fuel for longer-term trends when price breaks decisively above them.
ACH's Alpha Score of 167 out of a possible 200 puts it in the top 7th percentile of all stocks tracked by the system, which makes it the perfect icebreaker for those looking to buy stocks in the long-frozen natural resources sector.
In addition to ACH, the Alpha Score signaled three other buys last week: a blue chip with a score of 169; a cloud-based computer services firm with a score of 174; and a small-cap technology stock that you've probably never heard of with a score of 181.
If you're interested in learning more about the Alpha Score and how to trade its powerful breakout buy signals, follow this link.
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