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Stocks: Time for a Bounce?

After the recent ugliness, a snapback may be in the cards. Here are the industries—and stocks—that could lead the way

From Standard & Poor's Equity ResearchLast week was an ugly one for the stock market. The Standard & Poor's 500-stock index fell 3.7%, while the Nasdaq, S&P MidCap 400, and S&P SmallCap 600 indexes declined 6.5%, 2.8%, and 3.4%, respectively. What's more, 110 (85%) of the 129 subindustries in the S&P 500 fell during the week.

It doesn't get much worse than this. In fact, since S&P introduced the Global Industry Classification Standard in 1995, more than 85% of the subindustries have declined for a full week only six times—the highest reading was 98%, recorded on July 27, after which the S&P 500 gained 7.3% before the trend again turned against us.

A Little Perspective

Just how bad is a reading of 85%? On average, only 37% of all subindustries declined in any week since 1995. Readings above 78% are outside of two standard deviations from the mean, indicating an extreme level of pessimism, in my opinion (by definition, 96% of all observations fall within two standard deviations).

Take a look at the accompanying chart. On a rolling, 13-week basis, which is a bit easier to visualize since it smooths out weekly fluctuations, the number of S&P 500 subindustries posting declines now stands at 55%. This level is higher than one standard deviation (which contains 67% of all observations since 1995) above the 12-year average of 31% and is rapidly heading back up to two standard deviations. Should this end up being an equally distressing week for investors—possibly from higher-than-expected increases in reports on the core producer price index (scheduled for Nov. 14) and the consumer price index (Nov. 15)—we may see this percentage of S&P 500 subindustry indexes again become extremely "oversold," meaning prices have fallen too far. If that were to happen, it would signal to me that while the intermediate correction in the stock market, which has seen major indexes move well below their recent highs, may still be in place, equities may be due for a short-term advance.

And the Last Shall Be First

Should a bounce materialize, which subindustries are expected to lead the way? Technicians tell me those groups that held up best during market downturns are typically the ones that rebound quickest when the market recovers. Of course, past performance is no guarantee of future results.

Before listing these stalwarts, let's take a quick glance at the slackers. As of Nov. 9, 43% of the 129 subindustries in the S&P 500 were in bear markets, having fallen more than 20% from their week-ending highs during the past two years, with the five worst being Homebuilding (which tumbled 71%), IT Consulting & Other Services (down 46%), Real Estate Management & Development (also off 46%), Thrifts & Mortgage Finance (down 40%), and Electronic Manufacturing Services (down 39%). And even though all 10 sectors in the S&P 500 are below their weekly highs over the past two years, only one is in bear-market mode. Yes, you guessed it: Financials.

It's a surprise then, that despite the market's overall decline during the past several weeks, seven subindustries are trading at their week-ending highs of the past two years: Casinos & Gaming, Coal & Consumable Fuels, Electrical Components & Equipment, Health Care Services, Household Products, Independent Power Producers & Energy Traders, and Oil & Gas Drilling.

The 10 groups (which also contain component companies with 4 STARS (buy) or 5 STARS (strong buy) recommendations by S&P equity analysts) that have held up best since the October market high are listed below. Their strength during this overall market weakness may signal leadership potential in a recovery.

Top Performing S&P 500 Subindustries Since Oct. 9

S&P 500 Subindustries

Favored Index Components

Agricultural Products

Archer Daniels Midland (ADM; 4 STARS; $37)

Coal & Consumable Fuels

CONSOL Energy (CNX; 4 STARS; $56)

Peabody Energy (BTU; 4 STARS; $56)

Commercial Printing

R.R. Donnelley (RRD; 4 STARS; $39)

Education Services

Apollo Group (APOL; 4 STARS; $77)

Oil & Gas Drilling

ENSCO International (ESV; 4 STARS; $57)

Nabors Industries (NBR; 4 STARS; $28)

Noble Corp. (NE; 5 STARS: $53)

Oil & Gas Exploration & Production

Apache Corp. (APA; 4 STARS; $103)

Chesapeake Energy (CHK; 5 STARS; $40)

Personal Products

Estée Lauder (EL; 4 STARS; $44)

Soft Drinks

Coca-Cola (KO; 4 STARS; $61)

Systems Software

Microsoft (MSFT; 5 STARS; $34)

Oracle (ORCL; 5 STARS; $19)


Altria Group (MO; 5 STARS; $73)

Reynolds American (RAI; 4 STARS; $63)

UST (UST; 4 STARS; $53)

Source: Standard & Poor's Equity Research

So there you have it. Mark Arbeter, S&P's chief technical strategist, believes the S&P 500 is in the midst of an 8% to 12% decline from its recent high. In the meantime, there may be periods in which the S&P 500 experiences a counter-trend rally as a result of being oversold. We may be approaching such a rebound, in my opinion, since such a large percentage of subindustries in the S&P 500 have declined during the past 1-week and 13-week periods. Should we see a rebound, the leaders in this down-leg may also become the leaders during the recovery.

Industry Momentum List Update

Here is this week's list of the industries in the S&P 1500 with Relative Strength Rankings of 5 (price performances in the past 12 months among the top 10% of subindustries in the S&P 1500), along with a stock with the highest S&P STARS (tie goes to the highest market value).




Price (11/9/07)

Auto Parts & Equipment

Johnson Controls (JCI)



Coal & Consumable Fuels

Peabody Energy (BTU)



Commodity Chemicals

Lyondell Chemical (LYO)



Construction & Engineering

Jacobs Engineering (JEC)



Construction & Farm Machinery

Cummins (CMI)



Diversified Metals & Mining

Freeport-McMoRan Copper (FCX)



Education Services

Apollo Group (APOL)



Fertilizers & Agr. Chem.

Monsanto (MON)



Health Care Services

LabCorp (LH)



Industrial Gases

Air Products (APD)



Internet Retail (AMZN)



Oil & Gas Equip. & Svcs.

Schlumberger (SLB)



Oil & Gas E&P

Chesapeake Energy (CHK)



Tires & Rubber

Goodyear Tire (GT)



Source: Standard & Poor's Equity Research

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