Dow component Caterpillar, Inc. (CAT) has much to lose if China and the United States fail to reignite trade talks at this weekend's G-20 meeting. The stock's performance is closely levered to Asian growth and contraction, explaining why price action has suffered badly since President Trump fired the first shot of the trade war in January 2018. Caterpillar stock has also underperformed broad benchmarks since the October low, stuck in the lower half of a 61-point trading range.
Worldwide trade tensions have also hurt American farmers while keeping a lid on construction spending, affecting two major profit centers for the Illinois-based equipment giant. A full-blown recession could put a final nail in the rally coffin, squeezing international and domestic sales volumes while dropping the stock into the first secular downtrend since it bottomed out at a six-year low in 2016.
A short sale after failed talks could generate opportune profits, given the high stakes and binary scenario. However, a big Monday gap could affect the risk/reward scenario, making it difficult to build a low-risk position with the power to withstand inevitable short squeezes. Unfortunately for bulls, there's no equal opportunity on the upside if a deal gets done because selling pressure has taken a major toll, limiting upside potential into the company's July 24 earnings release.
CAT Long-Term Chart (1993 – 2019)
The stock broke out above 1981 resistance at a split-adjusted $9.50 in 1993 and entered a strong trend advance that topped out in the low $30s in 1997. Breakout attempts in 1998 and 1999 failed, yielding a steep downturn that posted a four-year low in the mid-teens in the fourth quarter of 2000. The subsequent recovery wave failed to clear resistance in 2001 and 2002, while a 2003 breakout opened the door to impressive gains during the mid-decade bull market.
Buying pressure eased in the $90s in 2006, while 2007 and 2008 breakout attempts failed, ahead of a triple top breakdown and downtrend that accelerated into March 2009. The stock bottomed out at a six-year low in the lower $20s and turned higher into the new decade, breaking out in sympathy with massive Asian construction projects. The rally ended at $116.55 in May 2011, while a failed 2012 breakout attempt posted a slightly higher peak at $116.95.
A 2014 bounce reached within five points of that level and turned tail, dropping like a rock during a worldwide commodity breakdown. The decline found support at a six-year low in the mid-$50s in January 2016, giving way to a V-shaped recovery and healthy breakout following the presidential election. The uptrend may have ended in January 2018 after the stock posted an all-time high at $173.24 and rolled into a complex correction that has now lasted for 17 months.
The monthly stochastic oscillator entered a long-term buy cycle in July 2018 and still hasn't reached the overbought level, nearly one year later. More importantly, the stock is trading about 10 points lower now than when the buy signal went into effect last year, indicating that Caterpillar has failed to take advantage of a cyclical tailwind that could evaporate on Monday if there's no trade deal.
CAT Short-Term Chart (2016 – 2019)
The on-balance volume (OBV) accumulation-distribution indicator posted an all-time high in 2011 and a lower high in 2018 when the stock hit an all-time high. This isn't a bearish signal because the company has bought back thousands of shares in recent years, affecting relative volume readings. Even so, the stock entered a heavy distribution phase after last year's peak, with OBV now slumping near an 18-month low.
The decline into October held support at the 2017 breakout, while higher lows in December and May look constructive, but range-bound action in the lower half of the multi-year range increases risk of a failed breakout that drops the stock back to 2011 levels and confirms the first bear market since 2015. Given the vulnerability, a decline that undercuts the May 31 low at $118.74 could set off aggressive sell signals, in anticipation of a breakdown.
The Bottom Line
Caterpillar stock has underperformed badly so far in 2019, stuck dangerously close to the 2018 corrective low, and it could break down if trade wars escalate in the summer months.
Disclosure: The author held no positions in the aforementioned securities at the time of publication.