This Sector Is Setting up for Trades Against Its Major Trend

After peaking in November 2021, the Consumer Discretionary Select Sector ETF (XLY) plummeted in the first half of 2022.

It lost nearly 40% in seven months.

This dramatic fall was mostly due to the selloffs that impacted Tesla (TSLA) and Amazon (AMZN). Combined, these two represented around 40% of XLY’s holdings at the start of its fall (now around 34%).

Yet despite XLY’s prevailing downtrend, there have been plenty of strong countermoves – such as those into April and August 2022.

Today, I want to focus on XLY’s most recent counter-rally that began this year…

Common Bearish Signals

The chart below shows XLY’s clear downtrend last year.

XLY made a series of lower highs in April (‘A’), August (‘B’), and January prior to that. And the longer-term 50-day moving average (MA – blue line) trended down.

Take a look…

Consumer Discretionary Select Sector ETF (XLY)

Source: eSignal

The down legs that followed those peaks at ‘A’ and ‘B’ coincided with two common bearish signals…

1. The Relative Strength Index (RSI) fell through support (green line) and began tracking in the lower half of its range.

2. The 10-day MA (red line) crossed below the 50-day MA, and both then tracked lower.

Those down legs then bottomed out and rebounded when the RSI formed a ‘V’ out of oversold territory (lower grey dashed line).

In the most recent of these moves at the end of 2022, XLY formed a short-term base before rallying aggressively this January.

As strong buying momentum came into the market, the RSI broke up through resistance. And that pushed XLY higher.

However, a surge in momentum on February 8 (red arrow) sent the RSI into overbought territory (red circle). And this put it in danger of a reversal.

Take another look at the chart…

Consumer Discretionary Select Sector ETF (XLY)

Source: eSignal

The RSI formed an inverse ‘V’ and then tracked lower. Soon after, XLY locked in its next lower high at ‘C’ before following the RSI down.

At the start of March, the RSI briefly tracked along support. But recently, it has broken into its lower band.

And the 10-day MA looks to be on the verge of crossing down below the 50-day MA, which adds to the bearish sentiment.

So, what can we expect from here?

A Clearly Defined ‘V’

If the RSI continues to track in the lower half of its range, then we can expect XLY’s pullback to continue. The longer the RSI stays in its lower half, the bigger that emerging down move could be.

The next test would be for XLY to take out its December 28 low of $126.

However, we’ll need to keep a close watch on the RSI. Right now, it’s tracking lower and could soon test the oversold line.

If the RSI forms a ‘V’ at or near this territory, then XLY could set up for a short-term counter-rally against the overall downtrend. And that would also provide the setup for a potential long trade.

But for this to happen, the RSI must go beyond touching the oversold line and instead form a definitive ‘V’ to rally.

Regards,

Larry Benedict
Editor, Trading With Larry Benedict

P.S. If you haven’t already, please take a few moments to learn more about the shockwave that’s set to hit this week.

But you need to be prepared BEFORE it hits to really take advantage… In fact, there’s not much time left before I issue my trade.

So if you missed last Wednesday’s Shockwave Summit, please catch up right here to learn all the details.

Reader Mailbag

Do you think XLY can redeem itself with a counter-rally against its overall downtrend?

Let us know your thoughts – and any questions you have – at [email protected].