From the desk of Tom Bruni @BruniCharting
Wednesday’s Mystery Chart is one of my favorite charts, so thank you everyone for your feedback and participation.
I received a lot of answers, but most of you were buyers of this recent pullback, while others were waiting to see if prices reacted positively to support before jumping in. Not many of you were sellers.
With that as our backdrop, let’s get into it.
Here’s the daily chart of Tractor Supply Co., which broke out of a 4-year base in April and is now retesting that level. The question now is, do we buy this retest? The size of the base and the fact that the stock was able to make new highs as the average US and Global Equity Index remains below their 2018 highs are two encouraging characteristics.
Click on chart to enlarge view.
The way I learned it is the bigger the base, the higher in space and this is certainly a big base. At current levels the reward/risk is very much skewed in favor of the bulls.
Besides this being a potential trade idea, it’s a good opportunity to discuss why we like bases.
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.
There are quite a few bases in S&P 1500 components that we’re watching.
Names like Broadcom, which is pulling back to its breakout level near 285 after breaking out in March.
Darden Restaurants continues to stair-step higher, building a smaller base within the context of a larger one.
Middleby Corp. looking to test the top of its multi-year base.
Lending Tree consolidating at the top of its 18-month long base.
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. We’re watching them closely.
On Monday morning I’ll be issuing a note to our Institutional Clients with more in-depth analysis of some other bases we’re watching.
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!