After a long bull run for stocks, the market tossed bears a bone yesterday. Yet whether you think yesterday's big drop in the stock market was a one-day aberration or a sign of more troubling things to come, one thing is certain: Some stocks will buck the downtrend and perform well no matter what the broad market indexes do.
Dealing with a drop
When the bottom falls out of the market, it often seems like there's nothing you can do to take cover. Yesterday's plunge was the S&P's biggest since last August, and all 30 Dow stocks fell with the market. With both indexes dropping more than 2%, many traders quickly scurried for cover.
For long-term investors, though, downturns can be opportunities. Suddenly, stocks that you've complained about being overvalued for months may put themselves on sale for you. If you pay close attention, you may be able to find great investments that fit well with your view of the future direction of the stock market.
Watch the money flow
A tool I like to use on days of market extremes is the Wall Street Journal's "money flow" measure. What money flow measures is the dollar value of shares traded on upticks, or minuscule bumps up in price, versus the value of shares traded on downticks. By detecting whether investors are willing to pay up for shares or are frantically seeking to sell out even as prices are dropping, you can get a better sense of the sentiment for particular sectors or stocks.
In yesterday's action, every sector was down at least 1%, as you'd expect on a big down day. But when you look at money flows, one sector bucked the trend: telecommunications, which saw a tiny positive money flow figure for the day. Oil and gas stocks also saw investor interest.
By contrast, basic materials stocks saw the biggest proportional negative money flows for the day. That's consistent with the delevering of riskier trading strategies, many of which have hinged on the multi-year bull market in commodities.
Sector information is helpful, and you can invest on it through sector ETFs. For instance, if you think telecoms and their high dividend yields will hold up better in a downturn, then iShares DJ US Telecom (NYSE: IYZ ) is a quick way to get exposure to several major players in the industry.
But you can also use the WSJ money flow figures to drill down further. On big down days, I turn to the "buying on weakness" list to see which stocks had the biggest money flows in their particular sectors.
Again looking at yesterday's information, you'll see the following:
- Among telecoms, AT&T (NYSE: T ) had the strongest money flows, with a ratio of uptick to downtick volume of 1.7. Further down the list, CenturyLink (NYSE: CTL ) also weighed in with positive money flow. Big block trades played a huge role in that measure for both companies, suggesting that institutional money may have bought shares.
- Similarly, Chevron (NYSE: CVX ) and Schlumberger (NYSE: SLB ) saw the biggest positive figures from the energy sector.
Interestingly, just because a sector does badly overall on money flow doesn't mean that every stock in that sector will share that underperformance. Yesterday, even though basic materials stocks saw mostly negative money flows, Mosaic (NYSE: MOS ) and Freeport-McMoRan Copper & Gold (NYSE: FCX ) both showed big positive movements.
No sure thing
Of course, you shouldn't overestimate the positive impact that strong money flows have on a stock. For one thing, a single day's trading doesn't tell a long-term story, and the traders that contributed to positive money flows today may well turn around and sell those newly bought share tomorrow.
But often, long-term market trends revolve around the idea of sector rotation. As one group of stocks moves out of favor, another comes in to take its place. By looking at money flow data, you may be able to anticipate investor interest before the herd picks up on it -- and that can turn a down day into a colossal profit opportunity.
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