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BALTIMORE (Stockpickr) -- Stock stumbles and rebounds are keeping investors at the edge of their seats this week -- and we shouldn’t expect that to change particularly soon.
Just when it looked like stocks had broken down below 1120 support in the S&P 500 by Monday’s close, the lack of confirmation in Tuesday’s rally shook out any shorts that were getting ready to take a bet against the market. That’s right, Mr. Market is turning the screws to the folks on both sides of the trade, a pretty tough feat to pull off.
Meanwhile earnings season is right around the corner, kicking off after the close next Wednesday with Alcoa’s third-quarter earnings release. Good earnings aren’t a guarantee that the market will snap back -- after all, the past two consecutive quarters have provided earnings that handily exceeded Wall Street’s earnings projections, and stocks still failed to get traction. Corporate profits at record highs haven’t done much for stock prices either. Still, the further stocks get oversold relative to fair value, the likelier it is that we’ll get a meaningful recovery.
That’s why earnings are still going to be the most significant price catalyst in October.
You don’t have to sit on the sidelines waiting for earnings data to come out. In the meantime, there are still some serious, worthwhile trades setting up right now. I’m talking about technical trading opportunities this week in some of Wall Street’s biggest-name stocks.
In case 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, technicals are 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.
Despite the downward pressures in the broad market, 2011 has been a stellar year for shares of home furnishing and apparel retailer TJX (TJX). The stock has rallied more than 27% year-to-date, while the S&P 500 has slid more than 9%.
Right now, shares of TJX are forming an uptrending channel, a formation that puts bounds around the stock’s price. Those bounds provide us with high-probability expectations for TJX’s price action. Shares are currently around the mid-point of the channel -- a moderately bullish signal by virtue of the fact that the channel is uptrending. The optimal entry on TJX, though, comes on a bounce off of trend line support.
Relative strength in TJX has been accelerating (as shown in the subchart in the image above). That’s a good indication from a statistical standpoint that this stock is likely to continue to exceed the S&P from a performance standpoint. A break of that trend line support level invalidates that outlook -- that’s where you should keep a protective stop.
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Dupont (DD), on the other hand, hasn’t been showing much in the way of relative strength lately – in fact, shares of this $38 billion chemical company have been underperforming the broad market in dramatic fashion for the last few months. That poor performance culminated with a head-and-shoulders breakdown in mid-September that served as a shorting opportunity for traders.
While that head-and-shoulders is the most clearly defined pattern in Dupont’s price chart, it’s no longer a valid sell signal; shares have already reached the price objective set by the formation. Instead, it may be a solid chance to “buy the bounce” as Dupont finds near-term support.
On Tuesday, shares of DuPont formed a Japanese candle formation known as a bullish engulfing pattern, an upside reversal signal. Candlestick formations are very short-term -- but they can indicate more intermediate price moves. A move to that former neckline resistance level of $44 seems like the likely trade right now. I’d recommend placing a protective stop at Tuesday’s lows.
Shares of semiconductor firm Broadcom (BRCM) are offering up a trade that mirrors the broad market right now. This stock has been basing for the last few months, trending sideways rather than up or down. That’s roughly the same sort of consolidation that we’re seeing in the S&P 500. More important, that sideways price action is producing an if/then trade right now.
An if/then trade is a contingent trade whose direction is dependent on the direction of a breakout in BRCM. Put more simply, if shares break above the stock’s resistance range, then it’s time to be a buyer. If shares break down below support, then it’s time to be a seller. Broadcom’s setup is made a little more complex by the existence of a resistance range rather than a single set resistance level. In this situation, I’d suggest taking a starter position on a move above $36, then scaling up to a full position size on a break above $38.
Either way this trade ultimately resolves itself, I’d recommend placing a protective stop just on the other side of the 50-day moving average.
Broadcom shows up on a recent list of Semiconductor Stocks Loved by Hedge Funds.
Cisco (CSCO), one of the top-yielding computer hardware stocks, has been the tech sector’s whipping boy in the last few months, gapping down hard on any indication of weakness. The Cisco’s propensity to gap makes it a particularly volatile stock to trade -- a gap that puts shares on the other side of a stop loss, for instance, means that traders are underestimating the risk on the trade.
All of that said, shares of Cisco are finally starting to show some strength right now. The broad market breakdown in the S&P 500 failed to push the stock below its nearest support level (S1), and now, shares are approaching a test of resistance above $16.80. That makes this name a good candidate for another if/then trade like Broadcom’s.
Remember that price action needs to be the ultimate arbiter of the direction of the trade. Resistance at $16.80 and support at S1 (just below $15) are the technically relevant price levels where gluts of supply and demand exist; a confirmed break outside of that range is the signal to wait for. On the down side, a breakdown below S1 puts a reasonable short target at S2.
A perfect example of a successful if/then trade came in shares of Netflix last week. Wall Street has been paying close attention to Netflix (NFLX) lately, if only because of the stock’s huge management-induced fall from grace. Last week, we took a look at the technical importance of the basing action that was taking shape in Netflix.
At the time, I cautioned that the “base is still small, but it’s well-defined by support at $126 and resistance at resistance at $136. … A lot of traders have been pointing to the oversold momentum readings in Netflix as a justification to go long. Yes, Netflix is dramatically oversold right now, but that’s a bad reason to buy shares. From a statistical standpoint, stocks that become oversold are more likely to get more oversold than they are to reverse. Use a breakout in price action to determine your position in this stock.”
Sure enough, selling on the break of $126 could have conservatively netted you more than 13% in just a couple of trading days. If you haven’t already closed this short-term trade, now’s a good time to do so. For now, Netflix looks likely to test that $126 resistance level.
Netflix was featured recently in "5 Stocks Showing Relative Strength in a Weak Market."
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.