Beyond Dow Theory: Time For Chips & Financials To Lead Stocks Higher (FAS, JPM, C, SMH, INTC, MU, SNDK)

It is no surprise that after a stock market rally that investors want more of a rally.  Dow Theory has been confirming the market rally with gains in transportation and industrial stocks, which you would probably expect considering that the stock market closed on roughly two-year highs on Thursday.  For the market run to continue ahead, there needs to be added gains in financial stocks first and chip stocks thereafter.  The good news is that the fresh outlines hinting at a return of bank dividends may contribute further ahead to Thursday’s late-day gains in financial stocks.  As far as chip stocks participating, this is probably simple from two sources: some of that tempered guidance needs to be raised or investors need to seize upon low valuations.

In financials we are first looking at Direxion Daily Financial Bull 3X Shares (NYSE: FAS) as the go-to leveraged trader ETF, but more specifically we are paying direct attention to J.P. Morgan Chase & Co. (NYSE: JPM) and Citigroup, Inc. (NYSE: C).  In chips, we’d look for new 52-week highs in the Semiconductor HOLDRs (NYSE: SMH), followed by or led by gains in Intel Corporation (NASDAQ: INTC), Micron Technology Inc. (NASDAQ: MU), and SanDisk Corporation (NASDAQ: SNDK) for the second wave higher.

The first and easiest tool to see the direction of the financial stocks can almost always be seen in the Direxion Daily Financial Bull 3X Shares (NYSE: FAS) triple-leverage ETF.  It rose more than 9% on Thursday and is so far indicated marginally higher so far on Friday.  We use this as a daily tool rather than a tool through time.  Tracking errors are a risk here and the moves are more geared to intraday performance.  At $25.08, its 52-week range is $17.05 to $39.74.

J.P. Morgan Chase & Co. (NYSE: JPM) is the healthiest of the banks and likely the first to return to its normal historic dividend trends.  Jamie Dimon’s  bank stock rose more than $2.00 or more than 5.5% on Thursday, and shares have traded in a range of $35.16 to $48.20 over the last year and analysts have an average price target above $52.00.  Thomson Reuters has estimates of $3.84 EPS for 2010 and $4.62 EPS for 2011.  This is a DJIA component, and its gains would translate directly into DJIA gains.

Citigroup, Inc. (NYSE: C) has lost its DJIA-component status, and this remains a stock which could double if the market holds and if it can continue in its turnaround.  Its gains were ‘only’ 3.3% on Thursday as it is likely farther away from a dividend return than its peers.  Shares are indicated flat to slightly lower so far in early Friday indications.  The 52-week range is $3.11 to $5.07 and analysts have an average price target of $4.38.  Citi’s price has to keep rising to help in ‘the turnaround bank’ scenario.  It will not directly create DJIA point gains as it is out of the DJIA, but gains here will lead broader financial gains.

When it comes to chip stocks, the Semiconductor HOLDRs (NYSE: SMH) is perhaps the most liquid instrument of them all in chip ETFs (and compared to stocks).  At $30.74, its 52-week range is $24.14 to $30.79.  With is close to 52-week highs, you might wonder why this has to keep rising.  Not all components have participated in the rally yet.

Intel Corporation (NASDAQ: INTC) gave guidance in the last quarter which many feel was easily attainable for its Q4 period.  A perceived problem with Intel is that it is diversifying away from mere processors.  that is good ultimately, but transition periods can be challenging.  The term “the post-PC era” is also a factor as it does not really win in most smartphones and it is worked around in many of the tablet PC products.  Apple is also making more efforts to make its own architecture, potentially leaving Intel and AMD to fight over the PC replacement business in the world. Intel trades at only about 11-times forward earnings, but Thomson Reuters sees earnings declining from $1.99 EPS in 2010 to $1.93 EPS in 2011 despite a slight rise in expected revenues.  At $20.97, Intel’s 52-week trading range is $17.60 to $24.37 and analysts have an average target just shy of $23.50.

Micron Technology Inc. (NASDAQ: MU) is still far under its recovery trajectory.  DRAM is a difficult business and it is trying to recapture its position with flash and other businesses.  At $8.56, the 52-week trading range is $6.36 to $11.40.  Analysts have an average price target of $11.78, implying that significant upside could  remain.  Thomson Reuters still has 2011 and 2012 estimates above $1.00 EPS each, making this a remaining tech value stock despite very sporadic earnings trends.

SanDisk Corporation (NASDAQ: SNDK) is a flash pure-play and is also an Apple winner, implying that it still has the wind at its back.  The company is also going through a founding CEO change, but the cycle here can still bring wild price moves in the stock and it still fits within many value screens.  Shares have recovered as its earnings and guidance held up better than many were fearing, and at $40.35 its 52-week range is $19.18 to $50.55 and analysts have an average target price north of $46.00.  Thomson Reuters has estimates at $4.39 EPS for 2010 but $3.75 EPS for 2011, so upside will likely be needed despite low valuations due to declining earnings power even though revenues are expected to rise.

These are of course not all of the go-to financial and chip stocks that we will be watching that have to show leadership for the market to continue rallying.  Still, this is a solid sampling and this thought needs to be echoed for a rally to continue.  Financial stocks have underperformed, and many chip stocks could still rally significantly before challenging their highs.  Expecting pullbacks after such large gains is always prudent.  Markets never rise nor fall indefinitely without directional change.  Still, if this market is going to rally further then there needs to be more participation in financial stocks and chip stocks.

JON C. OGG