Brazil Is a Good Snapback Play

The most quickly devastated part of the market in the past two months has been the commodity and basic materials sector. Many of the once highflying stocks in this sector are down at least 75% from recent peaks of just five months ago. The basic materials sectors had been the best performing sectors of the market, but with the global slowdown and almost instantaneous shutdown of growth, these stocks have very quickly and ruthlessly given back much of their gains.

The carnage has been severe, and traders have barely had a chance to catch their breath before the declines occurred. As the dust begins to settle, there may be an opportunity to play these sectors on the long side. As we discussed with the energy stocks and oil, there is a possibility of a bounce in the rest of the basic materials and commodity space. We think a good way to get exposure to the sector is through a couple of ETFs, such as the iShares MSCI Brazil Index Fund (EWZ - commentary - Cramer's Take). Brazil's growth and strength have been based on the country's large exposure to natural resources and manufacturing of products such as steel. This market is highly leveraged to the price of basic materials and will benefit as traders look to this area for long exposure based on the idea the selling was overdone.

The EWZ has acted very similarly too just about any stock or ETF in the current market environment. No growth or slower growth means lower profits, and therefore a lower stock price. The EWZ has declined about 70% from its peak in late May to the recent November low under $30. Interestingly, the recent low did not have as much selling pressure as in the previous move down to a new low.

iShares MSCI Brazil Index (EWZ)

Click here for larger image.

This bullish divergence can be seen on various technical measures, such as momentum, MACD and our internal SARSI indicators, which show this decrease in selling pressure. Simply put, most people had already sold their shares in previous declines. This is how rallies can start -- once that secondary flush occurs, the possibility for a sharper snapback comes. The rally from the lows was almost 30% in just five days. That still leaves the stock a far cry from any of its earlier levels, but it does reflect the opportunity this type of price action can create.

We expect some pullback over the next few days and would use that weakness as an opportunity to establish a long position for a continued move up toward the $40-to-$44 level. That would still leave the ETF in a severe downtrend yet is possible should the rally strengthen in the least. As far as a stop is concerned, the only clear-cut spot would be on a violation of recent lows around $26 or $27. We can always use a tighter stop based on percentage loss, but that level is where the setup we discussed becomes invalid.

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Know what you own: Hughes and Maragioglio mention the iShares MSCI Brazil Fund. Other ETFs that track countries include iShares MSCI Mexico (EWW - commentary - Cramer's Take), iShares MSCI Austria (EWO - commentary - Cramer's Take), iShares MSCI Belgium (EWK - commentary - Cramer's Take), iShares MSCI South Africa (EZA - commentary - Cramer's Take), iShares MSCI Malaysia (EWM - commentary - Cramer's Take), and iShares MSCI Netherlands (EWN - commentary - Cramer's Take).

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At the time of publication, John Hughes and Scott Maragioglio had no positions in the stocks mentioned. Hughes and Maragioglio co-founded Epiphany Equity Research, which has developed and utilizes proprietary tools to identify and track liquidity changes in the market indices and sectors. Hughes advises numerous asset managers, hedge funds and institutions managing in excess of $30 billion. Maragioglio is a member of the market technicians association (MTA) as well as The American Association of Professional Technical Analysts (AAPTA) and holds a Chartered Market Technician (CMT) designation. Maragioglio has also served on the board of directors of the AAPTA.