Tue, September 3, 2024 | 7:18PM ET

Materials sector being lowered to Neutral given commodity weakness

Mark L. Newton, CMT ^AC

Head of Technical Strategy

Key Takeaways

S&P, QQQ fall sharply, yet could bottom out and turn higher given broad sector strength

Materials looks to underperform as commodities might weaken further into next year

Reasons for Optimism on US equity indices listed in this report

Materials sector being lowered to Neutral given commodity weakness

The post-holiday selling in US Equities during this shortened week seemed to catch many investors off-guard, as VIX and Japanese yen spiked to multi-day highs while Treasury yields plunged. Technically there wasn’t much of any warning sign for market weakness heading into this week as SPX managed to close sharply higher into end of day last Friday while five sectors rose to make new all-time high monthly closes. Given that market breadth remains in good shape and Equal-weighted SPX has recently pushed back to new all-time high territory, I’m still inclined to expect a possible SPX rally back to new highs and don’t feel that Tuesday kicked off any sort of major selloff. If/when bullish price action happens into mid-month, there might be a technical case for weakening into October. However, I’m skeptical at this time that Tuesday’s decline leads to broad-based market weakness.

Technically I failed to predict any sudden selloff for early this week, and still feel that weakness likely proves short-lived in early September. While there certainly could be some late month weakness after September expiration, I’m inclined to feel that this recent attempt at weakening proves short-lived and might drive prices back higher.

My key points as to why this recent weakness might prove short-lived revolve around the following points:

Dull, lifeless markets like the range-bound trading SPX produced since 9/19 are rarely instrumental in coinciding with market peaks of any magnitude.

Equal-weighted SPX pushed back to new all-time highs into late August

Five sectors hit new all-time highs on a monthly close in August based on their Equal-weighted ETF’s: Financials, Technology, Industrials, Utilities, and Healthcare.

Market breadth remains in great shape with ongoing bullish trends at multi-month highs for NYSE Advance/Decline while more than 75% of all SPX stocks remain above their respective 200-day moving average.

No counter-trend DeMark-based weekly exhaustion signal is present now at the highs on either SPY, nor QQQ.

Sentiment has gotten more bullish lately following the 500 point SPX rally off the 8/5 lows; However, sentiment doesn’t appear to be enthusiastic and/or complacent.

Cycles show a possible short-term rally into mid-September, near this month’s FOMC meeting before a late month decline gets underway which would gel with seasonality trends. Weekly cycles remain bullish until next Spring.

Small and mid-cap stocks have begun to show better technical strength in recent weeks.

Thus, this break of SPX-5560 did catch many, including myself, off-guard to start the week. Yet the reasons above give me confidence that weakness likely proves short-lived and not too damaging.

SPX might bottom at current levels, or on further minor weakness on Wednesday, should begin to stabilize near 5500 or potentially near the area of the prior open gap from early August. That level lies near 5463. See that 5463 also lies right near the first Fibonacci-based 38.2% retracement zone.

S&P 500 Index

Materials being lowered to a Technical Neutral rating

Materials has proven to be a disappointment this year, with its +8.51% returns on an Equal-weighted basis being the 9^th worst returns out of 11 major sectors.

The last month’s relative weakness (returning just +2.33% on a 1-month return), finishing 8^th out of 11, doesn’t seem inspiring as to why Materials should outperform.

As this weekly chart of RSPM vs RSP shows below, this relative weakness vs SPX might result in this falling to new monthly lows as inflation data continues to fall.

Thus, while I favor precious metals strength into next year, I’m far less confident on the possible performance of commodities, and their respective stocks, which might trade lower if economic weakness starts to intensify.

As shown below, the technical breakout attempt into late Spring/early Summer 2024 failed to help this sector make much headway vs. the SPX, and the recent weakening has been difficult to favor. Overall, given my recent lowering of Energy to a technical underweight, it’s also right to lower Materials, given similar thoughts on commodities weakening further.

RSPM vs RSP

Commodities continue to weaken and likely postpone any outperformance out of the Materials sector

The sharp drawdown in many commodities to kick off the new month directly coincided with weak economic data out of China. There was severe weakness in WTI Crude along with precious and base metals, and this follows a near 50% drawdown in Grains prices in recent months.

While the early year rise in Crude oil along with a promising backdrop of precious metals gaining ground on rate cuts was thought to be promising for Materials, the strength just hasn’t materialized.

Materials has proven to be one of the worst performing groups in the last month and also remains a laggard on a year-to-date basis (YTD).

The Bloomberg Commodity index (which is heavily oil influenced) dropped to new yearly lows in recent weeks and its bounce attempt doesn’t look too inspiring given Tuesday’s pullback down to multi-day lows.

Technically many commodities remain under pressure, outside of Gold, Cocoa, Frozen Orange Juice, and the ongoing decline in inflation makes me wary that this area won’t experience much strength, particularly if the US Dollar begins to rise.

Bloomberg Commodity Index

WTI Crude is now trading the lowest since early January on Tuesday’s 4% plunge

Crude plunged further on Tuesday to kick off this shortened week, breaking support of the last three swing lows going back since May.

This puts WTI Crude at the lowest levels since January, and this past weekend’s weak PMI data out of China potentially might be stoking fears regarding this feeble recovery at a time when global output might be rising starting next month.

This is a bearish drop for Energy and Crude likely falls to the mid-$60’s initially, but very well could kick off a decline down to $50 or below into early 2025.

OIH violated technical support on Tuesday, and both XLE and XOP are on the verge of their own technical breakdowns which might take place in the weeks to come.

Additionally, Equal-weighted Energy ETF (RYE) is on the verge of breaking intermediate-term support vs Equal-weighted S&P 500 (RSP) which has held since 2022.

Overall Energy is a technical Underweight, and I expect additional weakness in the weeks and months ahead.

Crude Futures

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Mark L. Newton, CMT, the research analyst denoted by an “AC” on the cover of this report, hereby certifies that all of the views expressed in this report accurately reflect his personal views, which have not been influenced by considerations of the firm’s business or client relationships. Neither I, nor a member of my household is an officer, director, or advisory board member of the issuer(s) or has another significant affiliation with the issuer(s) that is/are the subject of this research report. There is a possibility that we will from time to time have long or short positions in, and buy or sell, the securities or derivatives, if any, referred to in this research.

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