Basic Materials ETFs Poised for a September Bounce

Futures markets point to a 97% chance of at least a quarter-point rate cut at the Federal Reserve's September meeting, according to the CME FedWatch tool – an outcome that bodes well for the economically sensitive basic materials sector. Fed Chair Jerome Powell told a gathering at Jackson Hole last month that the central bank will "act as appropriate" to sustain economic expansion as the trade war with China takes a toll on global growth and the U.S. economy.

Furthermore, official Chinese manufacturing data released over the weekend that showed factory activity contracting for the fourth consecutive month in August raises hopes of Beijing injecting additional economic stimulus measures, such as further infrastructure spending, that could boost demand for struggling materials stocks. Closer to home, traders get a gauge on the health of U.S. factory activity this morning when the Institute for Supply Management (ISM) releases its Manufacturing Purchasing Managers Index (PMI) report at 10 a.m. EDT.

Given the likely supportive policy action from the world's two economic superpowers, traders should monitor these three basic materials exchange-traded funds (ETFs), which also sit well positioned to move higher from a technical standpoint. Let's review the metrics of each fund and explore several trading plays to capitalize on a stimulus-driven September rally.

Fidelity MSCI Materials Index ETF (FMAT)

With assets under management (AUM) of $199.04 million, the Fidelity MSCI Materials Index ETF (FMAT) seeks to deliver similar returns to the MSCI USA IMI Materials Index. Within the materials space, the fund tilts heavily toward the commodity chemicals subsector with an allocation of roughly 40%. Key stocks in the ETF's basket of 122 holdings include Linde plc (LIN), Ecolab Inc. (ECL), and DuPont de Nemours, Inc. (DD). The fund’s daily dollar volume liquidity of over $1 million and tight 0.08% average spread minimize trading costs, while an ultra-low 0.08% management fee facilitates longer holding periods. FMAT yields 1.95% and has returned 11% year to date (YTD) as of Sept. 3, 2019.

FMAT's share price has had two significant retracements so far in 2019 – in May and August – two months that saw a sudden escalation in the U.S.-China trade dispute. During the August pullback, price formed a falling wedge that found support near the 200-day simple moving average (SMA). Last week, the fund broke above the pattern's upper trendline, which may fuel further September buying. Traders who take a long position should consider setting a profit target in the vicinity of the July swing high at $33.35. Think about placing a stop-loss order either beneath the 200-day SMA or under the August low, depending on personal risk presence.

Vanguard Materials Index Fund ETF Shares (VAW)

Launched in 2004, the Vanguard Materials Index Fund ETF Shares (VAW) tracks the performance of the MSCI US Investable Market Materials 25/50 Index. As its name suggests, the benchmark comprises companies operating in the U.S. materials sector. No single stock allocation in the ETF's portfolio of roughly 120 holdings commands more than a 12% weighting, helping to diversify exposure across the segment. The fund's ample daily share volume of over 65,000 and narrow 0.05% average spread keep slippage costs low, while a 0.10% management fee makes longer-term holding periods a viable option. VAW has an enormous $2.53 billion asset base, yields nearly 2%, and sports an 11.23% YTD return as of Sept. 3, 2019.

Although the 50-day SMA crossed above the 200-day SMA in mid-April to generate a "golden cross" buy signal, the fund's price has remained stuck in a 15-point range. However, short-term sentiment turned positive last week when the fund's price bounced off the support of a horizontal trendline and the 200-day SMA. Further buying this week could see short sellers rush to cover their positions, leading to a short squeeze. Traders who enter at these levels should look to exit near the June/July peak around $130. Cut losses if the price fails to hold $120.

ProShares Ultra Basic Materials ETF (UYM)

The ProShares Ultra Basic Materials ETF (UYM) aims to provide two times the daily investment results of the Dow Jones U.S. Basic Materials Index. The fund's leveraged exposure makes it a suitable instrument for traders who want an aggressive short-term tactical bet on some of the sector's biggest names, such as Air Products and Chemicals, Inc. (APD), Newmont Goldcorp Corporation (NEM), and steel player Nucor Corporation (NUE). Daily turnover can be thin at times, with the $43.47 million fund turning over about 5,000 shares most days on an average spread of 0.37%. These trading costs may be too high for scalpers but shouldn't overly affect those going after more significant intraday moves. As of Sept. 3, 2019, UYM has an expense ratio of 0.95% and is trading up 10.22% on the year. The fund also pays a 1.15% dividend yield.

UYM shares have spent the past month retracing toward $50, where the price found vital support from the October and May swing lows. The ETF's breakout above the top trendline of a falling wedge pattern last week may lead to a test of the August high at $61.19. A cross of the moving average convergence divergence (MACD) line above its signal line confirms the recent upward bias. Those who take a trade should position a stop under the psychological $50 round number to limit downside risk.