Stocks in the U.S. soared on Wednesday, led by the financial sector after the Obama administration said it’s considering setting up an aggregator bank, or “bad bank,” that would buy up all the toxic assets that are wrecking the balance sheets of banks.

Some rather unbelievable one-day moves were seen in financial names such as Loyds Banking Group (LYG), which soared 65%; MGIC Investment (MTG), which jumped 46%; Fifth Third Bancorp (FITB), which traded up 36%; Webster Financial (WBS), which added 36%; and State Street (STT), which finished up 31%.

The other major news of the day came out of the Federal Reserve, which announced it will leave the key federal funds rate at the current target of zero to 0.25% and will likely leave rates “exceptionally low” for “some time.”

The Dow Jones Industrial Average surged 200.72 points, or 2.46%, to 8,375.45, and the S&P 500 added 28.38 points, or 3.36%, to 874.09. The Nasdaq jumped 53.44 points, or 3.55%, to 1,558.34.

Many investors were surprised to see the market react so positively to the proposed bad-bank plan, because the Obama administration didn’t release any details about the types of bad assets it will accept or how it plans to treat the banks after it takes the bad paper of their books.

Some were even more surprised to see the market take up the financial sector when you consider that in 1980 we saw a similar plan during the S&L bailout crisis, but the financial stocks were met with big selling in the years that followed.

Is the stock market ignoring history? Will the bad-bank plan actually work, and how will it shape the financial sector for the future? These questions are almost impossible to answer. Investors could spend hours, if not days, trying to figure out how everything will eventually play out.

The truth is that only time will tell, so instead of spending a lot time trying to figure it all out, investors would be better served by spending their precious time looking at the charts, or using technical analysis.

Technical analysis aims to remove investor emotions and teach a market player to simply look for advanced warning signs for the future trends of a stock price. With technical analysis, the focus is on the true supply-and-demand picture of a stock by looking at how the stock acts at key support and resistance levels. Think of technical analysis as a way to capture the market psychology without having to play the fundamental guessing game.

This article will focus on the financial sector since the group was in play on Wednesday. Below are four compelling charts that could be setting up to make a big move.

E*Trade Financial

First up is E*Trade Financial (ETFC), a global financial services company that offers financial solutions, including a suite of trading, investing and banking products. This stock could be setting up to make a very big run higher for a number of reasons. Recently, the stock was able to break above the downtrend that started in September. This could be signaling an end to the bearish trend.


Shares of E*Trade have also moved above the 50-day moving average on heavy volume. On Wednesday, more than 16 million shares traded hands, making it the second-highest volume day for the month of January, and the stock closed up 16%. It’s worth noting that more than 14% of the float is sold short. If the stock can continue to rise, a major short squeeze could be in the cards.



Knight Capital Group

Next up is Knight Capital Group (NITE). This financial services firm, which Jim Cramer called a "remarkable" last week, provides electronic and voice-trade execution services to the capital markets across multiple asset classes for buy-side, sell-side and corporate clients, as well as asset management for institutions and private clients.

On Tuesday, the company agreed to sell its Deephaven Capital Management hedge-fund business to Brian Stark and Mike Roth of Stark Investments. The move was probably a smart decision, but it could also be viewed as a desperate measure, considering that the hedge fund industry is at depressed levels. Shares of Knight Capital Group could be setting up for a significant fall. The stock is approaching resistance at around $19 a share, and if it fails to trade above this level, it could easily fall back to the 200-day moving average at around $16 a share.



Goldman Sachs Group

Another interesting chart is Goldman Sachs Group (GS). Looking at the chart below, you can see that shares of Goldman are in an uptrend channel and have traded through the 50-day moving average at $73.69 a share. Watch this stock to see how it reacts to the previous resistance level of around $92 a share. If Goldman can crack through that level, it could be on its way back toward the 200-day moving average of $134.82.

It’s also worth noting that volume on GS has been increasing steadily since the beginning of January when shares were changing hands at around 15 million shares a day, vs. recent volume patterns that have hit as high as 38 million shares.



Legg Mason

Investors need to keep a close eye on the chart of global asset management company Legg Mason (LM), which provides investment management and related services to institutional and individual clients, Company-sponsored mutual funds and other investment vehicles. This company has been hit very hard by the poor performance in 2008 of its star money-manager, Bill Miller.

Investors could be worried about another year of underperformance at Legg Mason after on Wednesday the company reported it lost $1.49 billion, or $10.55 a share, during the third quarter. The stock fell 7% on the news, and more than 9 million shares traded hands, which makes Wednesday the second-highest volume day since back in October of 2008.

Looking at this chart below, you will see that there is almost no reason to be bullish on this stock. Shares of LM could easily fall all the way down to previous support at $11 a share.



Visit the Charts of the Week portfolio to learn about a few more financial stock charts that look compelling.

Also, if you want to improve your own technical-stock-picking skills, you can share ideas and pick up some tips on Stockpickr’s technical-analysis forum.

Posted on Jan. 29, 2009

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