2 Oversold High-Yield Stocks

08/08/2011 11:00 am EST

Focus: STOCKS

Thomas Aspray

, Professional Trader & Analyst

Two of Big Pharma’s finest are looking quite oversold at current levels, and while risk remains, both pay handsome yields and maintain sky-high cash positions.

As more details emerge from last week’s selling in the US stock market, there are some hints of a panic selloff as some money managers who cater to high-net-worth individuals reported their clients told them to “Get out of everything.”

The sentiment numbers are also turning more negative, as the American Association of Individual Investors (AAII) sentiment survey showed a jump to 49.8% bearish, up from 31% bearish the prior week. Only 27% of participants are bullish, but these numbers can still get more extreme, as less than 21% were bullish just a year ago.

Financial advisor sentiment has seen less of a drop, but the latest poll did not reflect a reaction to the plunge in the stock market late last week. The number of bullish advisors dropped to 46.3% from 49.5%. This number was under 30% bullish a year ago.

It should be no surprise that many individual stocks are getting quite oversold, and while this does not mean they can’t get even more oversold, it does suggest that some are now worth watching more closely.

The S&P 500, Dow Industrials, and Nasdaq Composite all closed the week below their weekly Starc- bands. The table below lists ten Dow stocks that closed below the weekly Starc- bands. As I have discussed previously, this is somewhat unusual, as when prices are below these bands, it is a high-risk time to sell and a low-risk time to buy. Typically, closes below the weekly Starc- bands are followed by either a rebound or some sideways price action.

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Two companies on this list, Merck & Co. Inc. (MRK) and Pfizer (PFE), stand out, and not just for their attractive current yields of 4.8% and 4.6%, respectively. In terms of forward earnings, these are two of the cheapest Dow stocks and both are holding large amounts of cash.

NEXT: See Latest Charts and Buy Levels for Merck and Pfizer

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Chart Analysis: Merck & Co. Inc. (MRK) has dropped 15.6% from the May 18 closing high of $37.58, and therefore, its yield has risen from 4.04% on May 18 to its current yield of 4.8%. Recent data shows that Merck currently has over $13.1 billion in cash and on Friday, the company reported a 7% increase in sales compared to the second quarter of 2010.

  • On Friday, MRK dropped below the March lows at $31.06 before closing higher for the day. It did hold barely above the flash crash lows of May 2010 at $30.70 with next strong support at $28.70
  • The daily RSI3, or Momentum, has dropped to a low of 6.3. It needs to move back above 25 to signal that an oversold price level is in place
  • The daily on-balance volume (OBV) dropped below its uptrend, line b, in late July and is still negative. The weekly OBV (not shown) is also below its weighted moving average (WMA) and is therefore negative
  • There is initial resistance for MRK at $32.50-$33 with much stronger resistance, line a, in the $34.40 area (line a)

Pfizer Inc. (PFE) has had its obituary written many times over the past few years as we approach the patent expiration date for its blockbuster drug Lipitor. The company reported a 5% profit increase last week along with its hope to win approval to market Lipitor over the counter.

  • PFE is down 18.4% from the May 31 closing high of $21.45 but is still up over 50% from the 2009 lows. PFE has $24 billion in cash and at the May highs was yielding just 3.7%, almost a full 1% lower than now
  • The next strong support from late 2010 is at $16.25 with further support at $15.80
  • The RSI3 has turned up but is well below the 25 level
  • The daily OBV did make new highs in July before dropping through its uptrend, line c. The weekly OBV is also below its weighted moving average but is still above its uptrend
  • There is first resistance now at $18.64 with further resistance at $19.20 and the daily Starc+ band

What It Means: It is likely to be a very rough opening on Monday considering 90 minutes before the open, the Dow Industrials stock index futures are down well over 200 points. As a result, these two stocks may test, if not break below, last Friday’s lows.

For some yield perspective, at its low in 2009, MRK was yielding 7.4% and PFE was yielding 5.5%. Another 5% drop in these stock prices with no change in dividend will push the yield on MRK to 5.04% and PFE to 4.81%.

How to Profit:  Those looking for attractive yields should consider these two big drug companies, especially on further weakness. I have listed the monthly Starc- bands on the charts, and PFE is the closest to its monthly Starc- band.

Look to buy Pfizer Inc. (PFE) at $17.03, a price where PFE would yield 4.7%. Use a close-only stop at $15.74 (risk of approx. 6.8%).

For Merck & Co. Inc. (MRK), buy at $28.88, a price where MRK would yield 5.26%. Use a close-only stop at $26.77 (risk of approx. 7.3%).

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