Better Trades For 09

February 2, 2009

(bettertrades) - Bill Murray's prediction in Groundhog Day about the impending winter went like this: "It's gonna be cold, it's gonna be grey, and it's gonna last you for the rest of your life." The sentiment is felt by investors who have lost their shirt over the past year and a half. But traders don't have to relive the losses of 2008.

Technical analysts believe price and volume history allow the observation of trading patterns. They argue that trends can be identified and forecasted by historical performance. Historically, stocks post their best results in December and January. But stock market activity over the past 15 months has proven old trading tenet's unreliable.

Consumer spending will continue to tank through at least the first half of 2009, despite lower prices at the pump compared to last summer. Rising unemployment, savings incentives, and faltering economic activity are forcing consumers to rein in their spending budgets.

Unemployment will likely climb to or above 7.5% when the Labor Department releases its official report on Friday, February 6th. On Monday, the Commerce Department reported a nominal 1% month-over-month decline in spending during December, the sixth drop in seven months. Personal savings picked up at a 3.6% pace in December as nominal incomes fell at a slower pace than spending.

Sluggish discretionary spending and mounting jobless rates contributed to the 3.8% decrease in Gross Domestic Product during Q4 as reported last Friday. GDP measures the total value of goods and services produced inside the country over a specific period of time.

Based on the assumption that economic activity and consumer spending will continue to contract over the coming months, what are the better trades to make while Wall Street gives yet another go at carving out a bottom?

On January 7th, we noted that the charts are sending out a significant technical indicator (See: Trading Patterns Emerging For 2009). Despite a few bumps in the road, the stock market has been cruising along familiar territory for several months as stimulus package talk and valuation buyers do battle against the global slowdown.

With the Dow Jones Industrial Average surrendering the 8,000 mark on February 2nd, the broad market could make a pass at retesting the mid-November low.

The safest bet for equity investors during a bear market are counter cyclical sectors like consumer staples, health care, and utilities. These demand curves of these segments are more inelastic to fluctuations in spending than cyclically sensitive sectors. Of these three sectors, utilities stand out because of their strong dividends and strong correlation to energy prices.

In a declining interest rate environment, utilities become more attractive to investors based on their dividend yield. When interest rates go down, solid yields (Like those offered by utility stocks) become more attractive. Because revenue streams at utility companies have a greater degree of consistency than cyclically exposed firms, their dividends are looked upon as stable.

Keying on lower interest rates, President Obama and Federal Reserve Chairman Bernanke have made it abundantly clear they intend to target short and long term interest rates to help struggling homeowners.

Utility stocks also tend to trade with a strong correlation to energy prices. With crude prices down about 72% from this summer's high, wintry weather settling in across the globe, and OPEC following through on production cuts, oil is finding support around the $40/bbl range.

Punxsutawney Phil saw his shadow this Groundhog's Day, predicting another 6 weeks of winter. So light the furnaces and keep on the better side of the trade curve by staying warm with the utility sector this winter.