The troubled TSX

October 15, 20191 Comment

The trouble with the TSX index is that it is a concentrated index. In truth, that’s because the Canadian market is a concentrated market economy. For instance, the TSX 300 index holds:

  • 32% weighing in financials.
  • 16% is in energy….We’re talking almost 50% of the index in just 2 sectors!!!

After that…Industrials and minerals come in at around 11% each. Then smaller amounts in other sectors. So we’re talking around 70% of the index focused on 4 sectors.

I bring this issue of a focused market index up because of the recent highs seen on the TSX. One might have been fooled into believing that the TSX entered into a bull market when took out its former resistance level of around 16,500 back in September. After all, the TSX Composite almost reached 17,000 (16,947 to be exact). A  solid move above resistance.

 

The problem with that move was that it was on the back of an oil threat coming after the drone attack in Saudi Arabia. Energy -representing 16% of the TSX 300 index, temporarily popped on that news. This move on energy ended up driving the TSX momentarily higher. When things calmed down a few days later, energy prices, and the TSX, fell back. The concentration of energy within the TSX Composite allows for a false breakout. Such a move may fool technically driven investors like ourselves to read more bullishly into a situation than is merited. Unless, that is, you use a 3-bar breakout rule as I have discussed on this blog before, and in my book Sideways.

My take: Before we buy a broad TSX index, we need to look at those top 4 sectors that make up 70% of the TSX’s return. We need to pay particular attention to financials and energy, given the 50% weighting of their presence in the index. Let’s look at these sector charts for clues as to the merits of buying a TSX index ETF or similar vehicle

 

Financials

Note that I’ve used the underscore to eliminate the dividend reinvestment on the chart above – this, to paint a clear picture of price action – given the sectors tendency towards higher dividends. The attempted breakout on the iShares TSX financials ETF (XFN-T) didn’t hold. Banks, the larger influence on this sector–followed oil’s rally and decline in September, which presented a false breakout. The difference between the broader index and XFN was that September’s breakout by XFN was negligible (39.68 vs the all time high of 39.64). So the financials really didn’t support the break, and have yet to prove they will support one in the nearterm. And they hold 32% of the vote in the TSX index!

Energy

It doesn’t take a highly trained Technical Analyst to spot the September pop on oil stocks as just another lower high in a series. Clearly, the energy sector, weighing in at 16% of the vote, is not supporting a new breakout for the TSX.  Note the lower lows and lower highs. That’d be a downtrend, and should be assumed as such until a base and breakout occur. The broad index isn’t going to get much help from the energy sector until that downtrend reverses.

Industrials

A small rally in September for the Canadian Industrials (BMO ZIN ETF) didn’t last long. The sector is consolidating and – who knows – may or may not be setting up for a double top. Whether that’s the case or not, what is important is to note that the sector is not looking like its going to help the broader TSX index make new highs. Its a weak looking chart at best.

Materials & mining

Another questionable breakout. The iShares XMA ETF hit $15.11 in September, barely beating out its early 2018 high of $14.98. This is too close for comfort to call it a legitimate breakout. Meanwhile, the sector is stuck in a 4 year consolidation pattern. A great trader, not so great as a market leader. Hard to call this chart supportive of a new bull market for the TSX 300.

 

Conclusion

The breakout by the TSX was less about the strength of the Canadian stock market. It was more about a temporary action by the leading sectors. They reacted to a single, unique political event. That event (the Saudi air drone attack) was thought to pressure oil prices. Canada’s economy and its growth is certainly dependant to a certain degree on energy (are you listening, pipeline haters?). So too is the loonie. But supply came back on board, and oil returned to its bearish trend.

Beyond financials – The leading sectors do not support a bull market for the TSX at this time. Sure, the financial sector may be a reasonable bet upon an upside breakout. Will that one sector, even with its 32% weighting, be enough to inspire a true bull market for the TSX? I think that we may get another head-fake on the TSX (assuming the financials do break out). But that pop may not be so long lasting. You need solid market breadth to sustain a market. One large sector can influence the market for a period, but not for the longer term. Just look at the SPX and its sideways pattern ever since the FANG’s started consolidating.

That’s my two cents. Please – offer your comments below on this subject. I’d love to read your thoughts on the TSX’s potential.

One Comment

  • I have 19,320 on the tsx.
    For the energy index look for su to rally like in 2011,14,18.

    Reply

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