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BALTIMORE (Stockpickr) -- If there was ever an example of “risk on, risk off,” yesterday was it.
By the 4 p.m. closing bell, every “risk on” asset class from stocks to commodities was in the red, while treasuries rallied hard as money flow sought out quality. The trade that caught too many investors unaware was gold; the metal has been trading lock in step with treasuries for most of this fall, but sold off more than 3.5% in Wednesday’s session (more on why in a bit).
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The big question on most investors’ minds is where the S&P 500 is going to end the year. Frankly, I think that’s the wrong question.
Instead, a more important one is whether the S&P is going to be able to hold its most recent swing lows at 1160, or shove above its most recent swing highs at 1290. That tells us a whole lot more about what’s going on with supply and demand for “the market” than whether stocks make their way to breakeven by 4 p.m. on Dec. 30. After all, most investors’ positions will still be open on the first trading day of 2012.
In spite of all of the anxiety around stocks right now, though, there are still high probability technical trading opportunities in this market. If you're new to technical analysis, here's the executive summary:
Technicals are a study of the market itself. Since the market is ultimately the only mechanism that determines a stock's price, technical analysis is a valuable tool even in the roughest of trading conditions. Technical charts are used every day by proprietary trading floors, Wall Street's biggest financial firms, and individual investors to get an edge on the market. And research shows that skilled technical traders can bank gains as much as 90% of the time.
Every week, we take an in-depth look at large-cap stocks that are telling important technical stories. Here's this week's look at the technicals of five must-see stocks.
iShares Barclays 20+ Yr Treasury Bond ETF
For investors looking for “quality” in ETF form, the iShares Barclays 20+ Yr Treasury Bond ETF (TLT) has become the gold standard. This fund invests in Treasuries on the far end of the yield curve, providing investors with an accessible way to get exposure to an asset class that’s been performing exceptionally well in recent months. More recently, a bullish technical setup in TLT is providing a solid upside trade for investors.
Right now, TLT is showing investors an ascending triangle with overhead resistance at $122.50 and uptrending support. We’ll want to see shares push above that $122.50 level before it makes sense to be a buyer of this name. You’ll have to act quickly though.
That’s because there’s effectively a ceiling on how high Treasuries can move (and how low yields can go for 20-plus-year maturities). So I think it’s likely that any breakout above $122.50 will be material but very short-lived.
With yesterday’s breakdown in gold, there are clearly some major forces at play in the equity alternatives. If these two asset classes start to converge again, I think it’ll make for a strong spreading opportunity.
From a technical standpoint (not from a macro standpoint), the exact opposite setup is taking place in shares of Danaher (DHR), one of TheStreet Ratings' top-rated industrial conglomerate stocks. This $32 billion manufacturing conglomerate has managed to have a fairly flat year for most of 2011, but shares could be due to move lower thanks to a descending triangle in shares.
A descending triangle is identified by a horizontal support level (in Danaher’s case at $44), and downtrending resistance. As shares bounce in between those two significant technical levels, they get squeezed closer and closer to a breakdown below that support level. All the while, sellers are absorbing some of the excess demand that’s kept $44 as a “floor” for DHR. The short signal comes if DHR can hold below $44.
The downward bias to this pattern is being confirmed by momentum, in the form of 14-day RSI. Originally, the switch to bearishness was tipped off by a broken uptrend in RSI (known as a bearish divergence), and now a strong downtrend suggests that there’s further to go.
Ultimately, though, price action needs to be the trigger for this trade. Don’t short DHR until it falls below $44.
Express Scripts (ESRX) is showing off a similarly ominous setup right now. Shares of this pharmacy benefit manager have been forming a double top pattern, a formation that’s identified by two swing highs that hit their head on approximately the same resistance level. A breakdown below the trough in between them is the trigger to sell ESRX short.
There’s one major caveat to this setup -- and that’s the fact that bias isn’t as well defined in ESRX as it is in DHR. Momentum hasn’t shown any material confirmation of a drop yet, and shares could easily bounce off of $42 support again to re-stest that dashed resistance line at $48. In that case, ESRX becomes what’s known as an “If/Then Trade.”
This setup is a good example of why individual breakout patterns aren’t themselves as important as what they tell us about supply and demand in a given stock. $42 and $48 are the significant prices to watch in ESRX right now; a breakout outside of that range means that it’s time to trade in the direction of the move.
Espress Scripts comprises 4.2% of Lone Pine Capital's portfolio as of the most recently reported period and is also one of the top holdings at Renaissance Technologies, with a 3.9 million-share position.
In last week’s column, we looked at a breakout in shares of big pharma name Eli Lilly (LLY). At the time, Lilly had pushed through very well-defined resistance at $38.50, indicating that buyers had finally absorbed the glut of supply that had constricted prices above that level.
While the move was significant, it was a bit too significant. With weakness in the market, a throwback looked like a good opportunity for a low risk entry on Lilly’s breakout. A throwback happens when a stock breaks out above a resistance level, then reverses to retest newfound support at that level. For Lilly, that throwback completed on Tuesday, when shares shoved higher off of Monday’s test of $38.50.
This stock is showing considerable relative strength vs. the broad market right now. If you haven’t already taken a position, the next white bar day might be a good opportunity. Just make sure you keep a protective stop below the 50-day moving average.
Another good example of a throwback is Yum! Brands (YUM), the fast food franchisor behind brands like KFC, Pizza Hut, and Taco Bell. Yum broke out above a resistance range between $56 and $57 -- now that level should act as a support level for shares. Essentially, what we’re looking for is a bounce that confirms the strength of the move; after shares bounce off of support, we can confidently take a position.
Generally speaking, a throwback is a mixed bag. While throwbacks do provide traders with a second shot at a low-risk entry point (an entry that’s as close to support as possible), research has shown that breakouts followed by a throwback result in smaller overall moves than the ones that never look back. Even with that in mind, these setups are typically worth taking.
RSI is confirming the move right now -- but wait for the next white bar day before taking a position in YUM. We need confirmation that the support range will hold up before buying. After that, I’d recommend keeping a protective stop at the 50-day moving average.
Yum! shows up on recent lists of 5 Large-Caps Flirting With 52-Week Highs and Cramer's 7 Stocks for Your Buy List.
To see this week’s trades in action, check out the High Volume Technicals portfolio on Stockpickr.
-- Written by Jonas Elmerraji in Baltimore.
At the time of publication, author had no positions in stocks mentioned.
Jonas Elmerraji, based out of Baltimore, is the editor and portfolio manager of the Rhino Stock Report, a free investment advisory that returned 15% in 2008. He is a contributor to numerous financial outlets, including Forbes and Investopedia, and has been featured in Investor's Business Daily, in Consumer's Digest and on MSNBC.com.