From the desk of Tom Bruni @BruniCharting
Last night was our Members-Only Conference Call where we discussed the major themes we’re seeing across asset classes.
A big theme was the lack of direction within Equities and last month’s failed breakout to new highs in the US as we “catch down” to some of the weakness we’re seeing globally.
As a result, today I want to revisit an exercise I performed in late May when the environment was pretty similar to today…and that was to look for stocks with “big bases.”
Before we get into a few names we’re watching, I think it’s worth reiterating why we like looking for bases. Why is that important to us, particularly in environments of choppy, trendless action?
The reason I like looking for base breakouts in this environment is two-fold.
First off, big bases take time to form because they are caused by steady institutional accumulation. Mom and pop investors aren’t the ones creating this trend, so I know that there’s underlying demand that will support prices if they do move lower.
Because prices have memory and the base has taken a significant period of time to build, there’s likely been more trading at each price level along the way. As a result of this institutional support, the rate of change to the downside is likely to be less severe versus a name that’s advanced quickly to the upside with less trading activity at each level, and thus less memory among market participants to defend these levels on the way down.
Secondly, our risk is extremely well-defined when trading these patterns. In the event that we are buying a base breakout (or pullback), we know exactly where we are wrong and can generally minimize our risk relative to potential reward.
Additionally, if stocks with these bases are breaking out to new highs it is a sign that buyers are in control of their long term trend which is typically not something we see in an environment where equities are doing poorly.
If that’s the case, we want to be participating, but if stocks continue to struggle and the breakout never triggers, it’s somebody else’s problem.
Essentially what that boils down to is stocks showing relative strength should go down less than others during times of market weakness and should lead to the upside during times of market strength. We want to own strength…and what could be stronger than a stock that’s gone through months, years, and sometimes decades of accumulation and is now approaching new highs?
With that as our backdrop, let’s get into a few names we like.
Healthcare is an interesting sector because it’s thought of as a more defensive area of the market, however, the Growth factor has a higher weighting to Health Care than Value does. Regardless of how you think about it, the sector has consolidated near all-time highs despite bifurcated performance between its leading industry groups like Medical Devices and its lagging ones like Healthcare Providers or Biotech.
With that said, there are names like Universal Health Services Inc., a hospital management company, breaking out to new all-time highs after doing nothing for the last 4 or 5 years. As long as prices are above 147, then this breakout is intact and prices are headed higher towards 228.
Click on chart to enlarge view.
Within a leading sector like Technology, Manhattan Associates Inc. is a Software stock that recently gapped higher through its 2015 highs and out of its 4-year base. Prices have been consolidating since, but as long as prices are above 77 then the bias is higher towards 102.
Even within a struggling area like Financials, there are pockets of strength like Insurance which we’ve been pointing to since May. Amerisafe Inc. is sitting at the top of a nearly 3-year base. There’s little to be doing until prices get above 68, but if they do, then the bias is higher towards 78.
We’ve been talking about heavy cash positions and being less aggressive in stocks since prices broke back below their 2018 highs (here and here), however, if you have a mandate that prevents large cash positions and/or requires trading, then these are the types of stocks you’re looking for. They’ve gone through long periods of accumulation and are now attempting to, or have successfully broken out to new all-time highs.
If the Major US Indexes are able to clear their all-time highs and begin trending higher, I’d imagine most of these names will too.
Tomorrow morning I’ll be issuing a note to our Institutional Clients with several other bases we’re watching across various sectors/industries.
If you’re interested in seeing that report and all of our Institutional Research, reach out to Jon Bloom at firstname.lastname@example.org.
Thanks for reading and please let us know if you have any questions!