Overbought Stocks Can Still Be Market Leaders

01/26/2015 10:45 am EST

Focus: STOCKS

Thomas Aspray

, Professional Trader & Analyst

Typically, the most overbought stocks are generally market leaders, so MoneyShow’s Tom Aspray examines the charts to see if stocks recommended in early January are still attractive or if there are better candidates for purchase. 

The profit taking Friday dampened some of the enthusiasm after Thursday’s powerful gains. Outcome of the Greek elections dropped the S&P futures sharply late Sunday but rebounded sharply from the lows and are now slightly positive. The EuroZone markets are holding nice gains ahead of the US opening.

The Nasdaq Composite and Dow Transportation Average had the best weeks, both up over 2.4% for the week. This was in spite of the Transports 1.7% drop on Friday. Some of the daily technical studies, like the % of S&P 500 stocks above their 50-day MA (see chart), do suggest that the market’s correction is over. A further rally is needed early in the week to confirm a move back to the December highs.

At the start of the New Year, I reviewed those Nasdaq 100 stocks that had closed December 2014 nearest to their monthly starc+ bands. When prices are near either of the monthly bands, the probabilities favor a move in the opposite directions as prices revert to the mean. I also emphasize that typically the most overbought stocks are generally market leaders which are outperforming the S&P 500.

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Conversely, those most oversold stocks typically exhibit negative relative performance. I have updated the Nasdaq 100 most overbought table from January 7. I wanted to see how they have performed since the original article and whether new opportunities have now developed. I have added some additional columns reflecting the closing price in December, as well as the January 6th and Friday’s, January 23rd’s closing price.

Staples, Inc. (SPLS) was the most overbought at the end of December as it closed at $18.12, which was 4.8% above its starc+ band. It is now 3% lower than it was on January 6 and is 2.7% below its monthly (see OB 1/23 column).

Therefore, it is now in a lower risk buy zone than it was at the start of the month. The Nasdaq 100 is up 4% during the same period and it closed last Friday 6.9% below its starc+ band.

Two stocks were recommended in early January and they have gained 6% and 8% respectively over the past two weeks. Are these stocks still attractive or are there some better opportunities in the most overbought stocks?

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Chart Analysis: The weekly chart of Staples, Inc. (SPLS) reveals that it closed the last three weeks of the year above the starc+ band.

  • The low last week was $16.23, which was still above the chart (line a) and quarterly pivot support at $15.92.
  • The better chart support for a stop is in the $14 area.
  • From high to low, SPLS has corrected 10.7% from the December high at $18.18.
  • The weekly starc- band is at $15.34 with the 20-week EMA at $14.97.
  • The relative performance broke its downtrend in early September.
  • The RS line made a significant new high at the end of December and is still well above its rising WMA.
  • The weekly OBV was not able to break its downtrend, line c, until early November.
  • It has rallied sharply since that and signals strong accumulation of the stock.
  • Both monthly technical studies are also positive.
  • There is short-term resistance now at $17.42-$17.66.

Monster Beverage Corp. (MNST) broke out to the upside the day of the original article as the resistance at line d, was overcome (see arrow).

  • The following week, it pulled back to a low of $111.92, which was just above the recommended buy level of $111.64.
  • MNST closed December 4.4% below its starc+ band, but as the table indicates, it has gained 6% since the January 6 close and is now 5.2% above the starc+ band.
  • MNST has surpassed the monthly projected pivot resistance at $118.65.
  • It did form a doji last week with the weekly starc+ band now at $126.64.
  • The relative performance turned higher from support (line e) and it’s rising WMA.
  • The RS line has confirmed the price action with the monthly also strong.
  • The weekly OBV has also made a new high after also testing its rising WMA.
  • There is minor support at $117 with the rising 20-day EMA at $115.09.
  • The quarterly pivot is much lower at $103.80.

Next: Two More Overbought Stocks to Watch

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The other original recommendation, Kraft Foods Group (KRFT), has gained 8% and is also now slightly above its monthly starc+ band.

  • The monthly projected pivot resistance is at $68.07 with the weekly starc+ band at $68.73.
  • The weekly relative performance turned higher in late November as it broke through its downtrend, line c.
  • The RS line has surged sharply to the upside since late December.
  • The WMA of the RS line is rising strongly and daily RS analysis is also positive.
  • The weekly OBV moved above its WMA in the middle of December.
  • The OBV has reached its previous highs, line d, but has not confirmed the new price highs.
  • Both the monthly and daily OBV have confirmed the new highs.
  • The rising 20-day EMA is now at $64.22, which is 3.7% below Friday’s close.
  • KRFT held the monthly pivot support at $61.77 in the first week of the New Year, but did not make it to our buy level at $61.64.

Texas Instruments Inc. (TXN) is in the strong semiconductor industry group that I reviewed last week. It has rallied 6% since the close on January 6 and is now just 3.7% below its starc+ band.

  • Over the past three weeks, TXN has found good support in the $51.70 with the 20-week EMA at $51.62.
  • Once above the recent high at $55.99, the monthly projected pivot resistance is at $57.59.
  • The weekly starc+ band is at $58.84 with upside targets in the $60 area.
  • The weekly relative performance has already made a new high even though prices have not.
  • The RS line staged a major breakout in early November as resistance at line f, was overcome.
  • The weekly OBV broke out to the upside at the same time as it had resistance at line g.
  • The monthly pivot is at $53.81, which is just above the 20-day EMA.
  • There is major support at $50.21 and the quarterly pivot.

What it Means: As I have mentioned previously, I use the results of my monthly scans as a watch list for the month ahead. Today’s update reinforces how the starc band and relative performance analysis work together to identify good opportunities.

When one runs most oversold scans, you look for stocks that have corrected but still have positive long-term relative performance analysis. Those are often the best buy candidates.

Since both Monster Beverage Corp. (MNST) and Kraft Foods Group (KRFT) have rallied nicely after just missing my buy levels, I would cancel these buy recommendations.

I think Staples, Inc. (SPLS) is probably close to completing its correction, but the daily studies are negative. The gap from December 11 makes the risk control more difficult at this time.

I like Texas Instruments Inc. (TXN), but it needs to pullback a bit so a stop under the recent lows can be used as the major support is much lower.

How to Profit: For Texas Instruments Inc. (TXN) go 50% long at $54.28 and 50% at $53.66 with a stop at $51.32 (risk of approx. 4.9%).

Here are some of Tom’s recent articles you might enjoy:

The Week Ahead: Barron's Roundtable—Too Cautious Like 2013?
Three Market Leading Healthcare Picks
Get an Edge from Yearly Charts
Are the Homebuilders Still in a Bear Market?

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