Sector Pairs Trade Idea: XLP vs XLK

• Posted by Greg Harmon
• on January 22nd, 2011

Out of the Sector Review earlier there is a natural pairs trade idea for the coming week.

The strongest sector was the Consumer Staples Select Sector SPDR, XLP. Below is the chart.

Consumer Staples Select Sector SPDR, XLP

Notice in this chart how the price and Simple Moving Averages (SMA’s) are trending higher over the last three weeks. From the upper panel the Relative Strength index (RSI) has also moved from the mid line and is heading higher. Finally the Moving Average Convergence Divergence (MACD) indicator (the green bars) has become less negative and is about to turn positive, with the Exponential Moving Average (EMA) pieces about to show a bullish cross. This is an strong example of correlation among all the tools and therefore an example of a strong trend.

The weakest sector was the Technology Select Sector SPDR, XLK. Below is it’s chart.

Technology Select Sector SPDR, XLK

This chart is almost the opposite of the XLP chart above. The price action has turned lower. The RSI has a steep negative slope and is heading lower, and the MACD indicator has turned negative and is about to show a bearish cross. These sectors are pointing to a strong downtrend, at least for now.

Trade Idea: Long XLP and Short XLK with a target of 1.195 and a stop near 1.138

This chart shows the ratio of XLP/XLK approaching and piercing the downtrend line again. But something is different this time. Like the last 3 times the RSI has broken above 50. But the difference this time is that the MACD is just now crossing higher. The last time it was crossing lower and the previous two times before that it crossed at the beginning of the move higher, so some of the power of the cross had dissipated when it reached the downtrend. These factors combined with the trend on the individual charts could make this trade a winner.

(As always you can see details of these individual charts and more on my StockTwits feed and on chartly.)

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