Correction Coming? Watch The Cyclicals...

Regular readers know that I have been cautious on stocks lately. The market action last week is best characterized as volatile and sloppy. The new high achieved on SPY on Friday was accomplished on low volume and a non-confirmation on OBV, or On Balance Volume.

At this point, any call for a correction is at best conjecture. I am watching the relative action of the cyclical stocks to see if a correction has truly begun. The chart below of the relative return of the Morgan Stanley Cyclical Index (CYC) against the market illustrates my point. CYC remains in a relative uptrend and it has pulled back to test the relative uptrend line - but I cannot call it a technical breakdown.

Similarly, the relative performance of the Consumer Discretionary stocks against the market as a measure of the risk-on trade shows that this sector remains in a solid relative uptrend. Should the market correct, the relative uptrend line is likely to be broken.

Globally, the South Korean economy is known to be highly cyclical and the KOSPI is used as a measure of cyclicality. Currently, KOSPI is showing a pattern similar to the relative return of CYC to SPX - a pullback to test the uptrend line. It could be said, however, that since South Korea is a competitor to Japan in exporting capital goods to China, the recent JPY devaluation is creating headwinds for Korean stocks and the pullback may be reflective of those circumstances.

In conclusion, while I remain cautious on stocks and the risk trade, the technical picture shows the uptrend to be intact and the bulls should still be given the benefit of the doubt for now. Nevertheless, my inner trader is closely watching these cyclical indicators and staying long with very tight stops.

Disclosure: Cam Hui is a portfolio manager at Qwest Investment Fund Management Ltd. ("Qwest"). This article is prepared by Mr. Hui as an outside business activity. As such, Qwest does not review or approve materials presented herein. The opinions and any recommendations expressed in this blog are those of the author and do not reflect the opinions or recommendations of Qwest.

None of the information or opinions expressed in this blog constitutes a solicitation for the purchase or sale of any security or other instrument. Nothing in this article constitutes investment advice and any recommendations that may be contained herein have not been based upon a consideration of the investment objectives, financial situation or particular needs of any specific recipient. Any purchase or sale activity in any securities or other instrument should be based upon your own analysis and conclusions. Past performance is not indicative of future results. Either Qwest or Mr. Hui may hold or control long or short positions in the securities or instruments mentioned.