2018 ended quite differently than we would have imagined considering the positive start to the year. Long term trends and a high level of complacency gave way late in the year to a much more defensive view of the stock markets.  While the volatility is unsettling, it’s nothing new for the stock markets.  On the contrary, the lack of volatility over the first part of the year was perhaps more unusual.

One of the primary drivers of the US stock market has been Apple Inc. As well as being a constituent of the Dow Jones, its business reach extends to affect a large part of the tech industry from chipmakers to software service providers.  Accordingly, as Apple goes, so can many of the related businesses.  Over the years there has been a certain sense of inevitability built into the Apple growth story.

In a similar vein, the start of the NFL season had many pundits extrapolating that the success of Tom Brady would continue as it has for the past dozen or so years.  Many had automatically pegged him to be MVP, reach the Super Bowl, if not win it again and a sense of inevitability was accepted as a given.  While no one takes away his amazing career run, many ignore the realities of a trend that is quite extended.  Age for one thing; changes in other teams and changes on Brady’s team for others.  Ignoring these factors while extrapolating Brady’s trendline off to infinity is less probable as time goes on.  The same dynamic may be in play for Apple.

We’ve discussed the complacency surrounding Apple in a previous commentary and while it’s presumptuous to call for the end of Apple or Tom Brady, time has brought changes to their respective trendlines.  To be sure, we are not expecting Apple to collapse and we think Brady has a few good games left.  But trends change; they falter, they end and new companies take their place as market leaders.

If we look at the charts of the 30 Dow components over the past year, most will show a downward bias from beginning to the end of year thanks to the late selloff.  Among the charts of the companies that managed to finish the year higher, a few industry groups jump out.  First of all, big pharmaceutical companies managed to finish strongly despite the late year sell off.  This industry is represented by Pfizer and Merck in the index, but also includes companies such as Eli Lilly and Tesaro which are not. Thumbnail charts are shown below (from StockCharts.com)

The other conspicuously strong groups all have reference to  consumer disposables.  This includes, McDonald’s, Coca Cola, Proctor and Gamble, Nike, Verizon and Visa.  While they have all sold off, they are not that far from their yearly highs.  Whereas many of the Dow Industrial stocks have been damaged beyond a simple correction, these consumer stocks appear only to be in a corrective pattern.  We can conclude that the economy is still strong enough to support the consumer and that the selloff in those stocks may only be temporary.  Using relative strength analysis, we would search for the strongest stocks among them and related stocks in their industry space.