U.S. stocks posted solid trading Wednesday after a de-escalation of tensions in the Middle East. If cooler heads prevail in the region, the rally in equities might be set to resume.
After all, the economic environment remains benign, if not outright positive. Low interest rates limit returns in the bond market. Valuation might be a concern, but record earnings multiples haven’t dissuaded investors so far.
For investors who see those factors as driving further gains for U.S. stocks, cyclical names are an intriguing category. Many cyclical names did quite well in 2019, but quite a few struggled in 2018. Widely-held stocks like Caterpillar (NYSE:CAT), 3M (NYSE:MMM) and Deere (NYSE:DE) have underperformed or even declined of late.
There’s clearly a risk of recession priced into cyclical stocks at the moment, which makes sense heading into year twelve of the U.S. economic expansion. How much risk is priced in — and how much risk should be priced in — is, however, up for debate.
In that context, Thursday’s three big stock charts look particularly interesting. All three charts feature cyclical names that look set to make a near-term move. And so they are interesting targets for investors looking to buy cyclical stocks ahead of a breakout 2020 — or sell them before the market comes back to Earth.
Home Depot (HD)
When we covered Home Depot (NYSE:HD) in our big stock charts back in November, HD stock was in the midst of a freefall following its third quarter earnings report. But shares have found their footing, and the chart actually seems to lean bullish at the moment:
- Home Depot has established a cup-and-handle pattern, with Wednesday’s gain potentially part of the ensuing breakout. Shares have re-taken the 20-day moving average, and if they can bust past the 50-day, seem to have a chance at a nice rally from here.
- That said, it’s also fair to wonder if this is a bit of a “dead cat bounce.” The post-Q3 sell-off followed a disappointing Q2 that investors largely shrugged off. Initial guidance for fiscal 2020 (ending January 2021) was soft as well. Investors have been forgiving to Home Depot stock. As I’ve written before, they’ve treated this cyclical stock as a defensive name.
- And so HD seems exceedingly sensitive to market conditions over the next few months. If U.S. stocks keep rallying, investors can stay patient, keep their eyes on fiscal 2021, and see the stock as attractive at a discount to November highs. But if the market, or just cyclicals, start to weaken, sales and margins concerns could lead HD stock to pull back once again.
Lennar Corporation (LEN)
One data point that might suggest caution toward Home Depot stock is Wednesday’s price action in Lennar (NYSE:LEN). The second of Thursday’s big stock charts shows a stock heading to a decision point, suggesting a missed opportunity:
- Lennar posted an absolute blowout of fiscal fourth quarter earnings report on Wednesday morning. In early trading, LEN stock was up over 5%. But it closed at the lows — often a bearish signal — and wound up basically matching the gains of the S&P 500 for the day.
- Had LEN stock held those early gains, the chart would look rather bullish, with an upside exit from a triangle pattern and return above the 50-day moving average. At the close, however, the triangle remains intact and near-term moving averages look like potential resistance. Particularly in context of the earnings beat, the chart now looks questionable at best.
- And that might not be good news for housing and construction stocks as a whole. The iShares U.S. Home Construction ETF (BATS:ITB) was one of 2019’s best ETFs. But it, like LEN stock, has shown some choppy and occasionally weak trading of late. There’s a sense that the sector is facing rising cyclical worries, and the response to Lennar’s Q4 beat is one more piece of evidence to support that sense.
Roper Technologies (ROP)
Diversified software and technology provider Roper Technologies (NYSE:ROP) isn’t as cyclical as those housing names, though an 11% decline in sales in calendar 2009 shows the company does have some macro exposure. That macro exposure doesn’t seem priced in at the moment, but the third of our big stock charts suggests investors aren’t worried:
- ROP stock looks poised to re-test its 52-week high. Shares have exited both a downtrend that began in July and a triangle pattern. The rally followed a bounce off $342, with that level reversing from near-term resistance to what looks like longer-term support. A “golden cross,” in which the 50-day moving average crosses above the 200DMA, looms in the coming sessions as well.
- Fundamentally, the news looks a bit dicier, however. ROP stock trades at 26.5x the 2020 consensus earnings per share estimate. That’s despite the fact those estimates suggest just 6% profit growth next year after a 10% increase in 2020. Those are multiples closer to those assigned, even in this bull market, to purer defensive stocks like Coca-Cola (NYSE:KO) or Procter & Gamble (NYSE:PG).
- That said, this has been a market where quality stocks keep rising despite valuation concerns — and Roper Technologies stock unquestionably is a quality name. And as long as investors remain confident in the macro picture, cyclical fears won’t be a factor and ROP stock may well keep rising.
As of this writing, Vince Martin has no positions in any securities mentioned.