March 5th, 2009

Some Chart Reading "Black Magic"

Half the “talking heads” are saying that we were over extended and due for a bounce and the other half can only see the economy being a disaster area. Some point to today’s ADP report on private employment (or lack thereof) as evidence for the gloom and doom predictions. I’ll point to another form of evidence that there is something good happening beneath the surface.

A while back (October 17 and December 17), I suggested that while the market was in the Accumulation Phase of its Life Cycle and it was to early to find reliable reversal patterns, stocks with “Golden Cross” have a high probability of being early leaders. While the market’s symmetrical triangle seems to either be slipping away or morphing into another reversal bottom pattern, many stocks have mirrored the action and formed patterns that clearly look like base patterns.

Over the past several posts, I’ve listed a number of these stocks and industry groups including: the shippers and heavy construction firms, some foreign currency ETFs, the oil ETFs, and some healthcare and credit card processers stocks. But I’m amazed at being able to continually find more and more stocks with similar patterns in a wide range of industry groups.

Here are a several more. As you peruse them note the similarities and that 1) the stock price is usually above the 60-day and 90-day moving averages, 2) the clear horizontal resistance trendlines and 3) the start of the patterns in October, when many of us were saying that we hit a bottom 4) the price target inserted in each determined according to the convention that the trendline marks the midpoint between the low (within the pattern) and the next peak above the trendline.

The list is gleaned from my Relative Strength scan; the stocks were selected exclusively on the basis of their interesting and consistent chart patterns. No consideration was made for company or industry fundamentals, trading volume, current price level or potential price appreciation (in % terms):

As you may have noticed, the primary criteria for being included in the list is clearly defined pivot points aligned so that a horizontal, resistance trendline could be drawn between them. Horizontal trendlines are the most reliable because they are so unambiguous and unequivocal; sloping trendlines are always subjective and their most applicable slope is always subject to debate (“it’s a rising wedge”, “it’s the left-shoulder”, “it’s the cup”).

Skeptics will say that these charts merely reflect the pause in the market’s downward slide. Others will say that projecting future price targets based on historical price patterns is equivalent to “black magic”. I believe it’s elegant and rigorous.

A caviet is warranted, however. Be patient and don’t anticipate a breakout. The market can always throw a curve and cause each of these patterns to fail simultaneously. But I’m fascinated by the abundance of stocks with similar patterns. The abundance must mark the beginning of something bigger and better, even if it takes another 3-6 months to be realized.

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