XLK Should Rally Hard By Year End, But Not Just Yet (NYSEARCA:XLK)

Tech stocks greatly fueled the 2024 rally, which ended rather abruptly this summer. Given that they are the largest component of the S&P 500, but also that many of them saw meteoric gains in July, SPDR® Sector Technology Select Fund ETFs (NYSEARCA: XLK) was at least a strong performer.

We last covered XLK in April, when we gave it a buy rating at ~$208 per share. The ETF fell to around $200 in the days after the article, but then reached $237 before rallying over the summer. The ETF contains mega-cap names that we’re all used to driving the bull market we’re in, and that served it very well in the top. However, the same names have been pretty awful since then, and in this article, we’ll take a look at whether it’s time to buy tech again or not.

Mega-caps everywhere

We’ll start with a refresher on what XLK is, and this is a very focused bet on mega-cap tech names. Microsoft invents almoSt 22% af fund, while NVIDIA makes up another 19%, meaning just two names make up more than two-fifths of the fund. There are plenty of other big tech companies that are 5% or less, but XLK right now is all about Microsoft and NVIDIA.

We can see that semiconductors make up a large portion of XLK, for obvious reasons, with NVIDIA, Broadcom, and AMD in the mix in the top 10. This, therefore, is an aggressive ETF for investors who believe technology will outperform the S&P 500. Something like it has a time and a place, like when I was optimistic in April. However, at this point, I don’t share the same sentiment, even though the fund is about the same price as it was then.

Let’s first take a look at the top two names, Microsoft and NVIDIA, which account for more than 40% of the fund.

Both are in clear downtrends, especially Microsoft, which doesn’t seem to be catching a bid. NVIDIA is also in a downtrend, so neither looks particularly inspiring if you’re a bull. When 40% of a fund has charts that look like this, it’s very difficult to want to own it until the charts improve.

Speaking of charts, let’s take a look at XLK’s price chart to get an idea of ​​what we’re dealing with from a technical perspective.

We can see that XLK peaked in July and then fell in a straight line from $238 to $190 in the span of a few weeks. Recovery from August 5^th low was unreal in terms of speed and magnitude, but the XLK quickly gave way to another wave of sharp sales. Today, we have a bottom showing some pretty dire momentum, below the major moving averages as well as key price support/resistance.

With the PPO below the center line and falling, and the RSI never reaching the 60 level since the July peak, the momentum is firmly in favor of the bears. The nail in the coffin for the bulls, at least until it changes, is that XLK is below the $211 level, which was the peak until the breakout in May. This is a critical price level and as long as XLK is below it, I will remain bearish. I don’t see any signs right now that suggest we’re about to see a move through there. Maybe it does, and if it does, I’m happy to change my stance, but I think we’ll see lower lows before we get a significant bullish move.

How bad is it for the XLK? This chart shows XLK’s performance against the S&P 500 over the past 10 months, and we can see that since the July peak, XLK is over 10% worse than the S&P 500.

Of course, this sort of thing happens in the fall, generally speaking, because XLK seasonality is terrible in September.

The stock market in general is weak in September, but XLK is indeed weak, being the only month of the year where XLK’s average returns are negative. The really good news is that October and November are great and I fully expect XLK to come back strong by the end of the year. But I don’t want to take that chance right now because I think there’s still significant weakness before we get that year-end rally.

So what do we do then?

The bottom line on XLK is that I think we’re seeing a test of $190 at best, and something less than that at worst. However, before I get involved in technology again, I want to see that weakness play out.

I think we see that low (whether it’s $190 or lower), then very quick and sustained buying into the winter months. XLK will be a great way to take advantage of this rally, but it’s too early to buy right now.

When will it be time? I need to see Microsoft and NVIDIA build sustainable funds, but neither is close to doing that yet. When those charts get bullish, that’s when you want the XLK. I think we see at least $385 on Microsoft before a bottom is formed and at least $90 on NVIDIA. We’ll know in the next few weeks where the bottom is, I guess, but we’re not there yet. Patience, I think, will pay off big with big tech as 2024 draws to a close.