August 14, 2019 / 4:17 PM / a year ago

GRAPHIC-Dow transport average struggles to keep pace, could be market warning sign

NEW YORK, Aug 14 (Reuters) - The Dow Jones Transportation Average is struggling to get into gear and that could be a sign the market is ready to stall further.

The 20-component index of rail operators, airlines, truckers and package delivery stocks is seen by many investors as a barometer of economic activity, and it is failing to keep up with other key market measures.

The Dow transports slumped more than 2% on Wednesday, in line with declines for the broader market, as a closely watched bond market indicator pointed to a renewed risk of recession. Yields on U.S. 2-year Treasury notes rose above the 10-year yield on Wednesday, the first such inversion of the yield curve since June 2007, a potential warning sign for investors.

While other major U.S. averages have set all-time highs in 2019 amid a broad equities rally, the Dow transports only came within 4% of its Sept. 14 record, doing so on April 24. Since then, the transports are down more than 10%, and more than 14% from its September record.

The 123-year-old Dow transport average has climbed 8% this year, and more than 14% since Dec. 24, when the overall market made a recent bottom. But those gains have trailed other major indexes; for example, the Dow Jones Industrial Average is up about 10% in 2019 and 18% from Dec. 24.

The Dow transports are often analyzed relative to the Dow industrials to determine the overall direction of the market. When compared to the Dow industrials, the Dow transports are around their lowest level since 2012.

"For us, they represent a confirmation of the primary trend," said Chuck Carlson, chief executive officer at Horizon Investment Services in Hammond, Indiana. "And if you don’t have the transports in sync with the industrials and other major indices, that’s an economy that’s a little out of sync and that’s a stock market that's a little out of sync."

Matt Maley, chief market strategist at Miller Tabak, said the divergence of the transports is a sign the broad market could be due for a steeper pullback. Maley said the market could test the lows from early June, which are 5% below current levels.

"The stock market is a leading indicator for the economy and the transports are even better because they are a leading indicator for the stock market," Maley said.

Shares of railroad stocks, which account for nearly one-third of the weight in the Dow transports, have helped lift the performance of the overall index. As of Tuesday, Union Pacific shares had climbed 22% in 2019, while Kansas City Southern shares gained more than 25%.

But some rail shares, including CSX and Norfolk Southern, have struggled in the past month, and the S&P 500 railroads industry group earlier this month began trading below its 200-day moving average, a key technical indicator for trends, for the first time since January.

"That was the one area in the transportations that was holding up and now it’s rolling over,” Maley said.

Carol Schleif, deputy chief investment officer at Abbot Downing in Minneapolis, said the transports' performance could be a misleading indicator, because of certain "one-off" issues hurting shares of various components in the index.

For example, Schleif points to Boeing's grounding of its 737 MAX jet hitting airlines and Amazon posing a competitive threat to logistics companies.

"Most of the broad economic numbers would tend to indicate an economy that is still chugging along pretty well," Schleif said.

But several indicators, including some that ripple directly through to transports, show caution.

The Cass Freight index recorded a 5.3% year-over-year decline in June, the index's seventh straight month with a negative reading on a year-over-year basis. Cargo volumes at the Port of Long Beach, a key hub for U.S. ocean trade with China, last month fell from a year earlier, and for the year are down 7.2% from the same period a year ago.

Additional reporting by Saqib Iqbal Ahmed; editing by Alden Bentley and Jonathan Oatis

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