The transportation sector lies in the crosshairs of the current economic debate. Hopeful bulls are anticipating a surge in industrial activity during the second half of the year while nervous bears expect planes, trains and automobiles to carry lighter loads well into 2010, with slack demand affecting the entire spectrum of goods, services and travel.

The broad sector is actually composed of four smaller groups, each with unique exposure to the economic cycle. Airlines, railroads, packaging and shipping companies traveled a similar path during the historic bear market to multiyear lows, but their performance has diverged sharply in the last five months. Let's see how this diverse behavior has created new trading opportunities.

The Dow Jones Transportation Average Index Fund ( IYT) sold off in three waves between June 2008 and March 2009, coming to rest at a multiyear low near 38. It surged higher for the next eight weeks, hit the 200-day moving average and dropped into a broad sideways pattern that's still in place as we head into the dog days of summer.

iShares Dow Jones Transportation Average Index Fund (IYT)
Source: eSignal

Price action in the last two months has carved out a rectangle, with resistance at the moving average. Buying interest has been moderate during the two-week uptick, pointing to increased speculation across the sector. While the straight-up rally isn't likely to yield a breakout, it has brought the instrument one step closer to sustained higher prices.

What the fund needs is a consolidation period that holds in the upper half of this pattern, and sets up a launching lad for a thrust above resistance. That process could take another two to four weeks at a minimum. Alternatively I'd be cautious about chasing a breakout in the next week because risk of a quick downturn is too high.

While the fund offers a direct play on the broad sector, better returns might come from careful stockpicking in the group leaders. In this regard, I'd avoid or sell short the airline stocks because it's a troubled industry facing major headwinds that will continue long after we put this recession back in the closet.

Continental Airlines (CAL)
Source: eSignal

Continental Airlines illustrated sector risk well in Tuesday's poorly received earnings report. The stock broke a month-long rising trendline on higher-than-average volume, selling off right at 200-day moving average resistance. This is a short-sale signal for a renewed decline that could eventually test the bear market low near $6.

Union Pacific (UNP)
Source: eSignal

The railroads are attracting steady buying interest, with the best-known stocks in the group breaking out of basing patterns in the last two weeks. Union Pacific ( UNP) is a case in point, after surging to an eight-month high. The stock has rallied above a two-month basing pattern near $54, which should offer excellent support and a good buying opportunity on any pullback.

Other railroad stocks rolling on the rally tracks include CSX ( CSX), Norfolk Southern ( NSC) and Kansas City Southern ( KSU).

FedEx (FDX)
Source: eSignal

There's been plenty of discussion about the packaging sector since FedEx ( FDX) turned higher and took off despite downside guidance in its June 17 earnings release. The stock has now rallied into an interesting position, stalling at the May swing high and drifting sideways. This is exactly the price action I want to see ahead of a notable breakout.

However, it's best to wait for the current consolidation to run its course, before considering a long position. These air pockets clean out sell-stops, which then sets up supportive conditions for higher prices. That process could drop price as low as $57 before buyers return for a breakout run.

J.B. Hunt Transportation Services
Source: eSignal

You'd think truckers would look as appetizing as the railroad or packaging stocks these days, but that isn't the case. Top names in the group, including J.B. Hunt Transportation Services ( JBHT) and Arkansas Best ( ABFS), have actually sold off in the last week, despite the big rally. This points to cash getting freed up for purchases in other subsectors.

No, I wouldn't sell short the trucking stocks because they're in better technical shape now than earlier this year, but I would avoid them at all costs. It's a clear warning when a major group fails to participate in a broad market upswing. Frankly, I don't know the reasons for group weakness but the price action is speaking for itself.

Shipping stocks have stopped falling in recent months after the near collapse in the world economy brought many of these companies close to bankruptcy. However, buying interest remains scattered across the sector, with a handful of components perking up while the majority just runs in place.

Teekey LNG Partners (TGG)
Source: eSignal

Teekey LNG Partners ( TGG), not to be confused with the larger Teekay ( TK), is a shipping leader that now trades at a 10-month high. It bottomed out above $9 following a horrendous selloff that started in the mid-$30. The stock started to move higher in November and stalled at the 200-day moving average about two months later.

It finally broke out above this level last week. This positive action sets the stage for a continued uptrend that could reach the upper $20s in coming weeks. Any pullback toward support at $20 should mark a low risk buying opportunity, so get this one onto your watch list as soon as possible.

Alan Farley provides daily stock picks and commentary with his "Daily Swing Trade" newsletter.
At the time of publication, Farley had no positions in the stocks mentioned, although holdings can change at any time.

Alan Farley is a private trader and publisher of Hard Right Edge, a comprehensive resource for trader education, technical analysis, and short-term trading techniques. He is also the author of The Daily Swing Trade, a premium product that outlines his charts and analysis. Farley has also been featured in Barron's, SmartMoney, Tech Week, Active Trader, MoneyCentral, Technical Investor, Bridge Trader and Online Investor. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks.

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