Is Merck (MRK) Ready to Rally?

12/07/2009 9:41 am EST

Focus: STOCKS

After a bullish moving average crossover, the rally of Merck Inc. (MRK) gained bullish strength. A bullish moving average crossover means that the shorter-term moving average crosses above the long-term moving average. In Figure 1, the 50-day exponential moving average (EMA) moved upward and crossed above the 200-day MA (see marked circle).

The 50-day exponential MA as well as the 200-day MA support was retested during the upward movement. However, the rally witnessed high volatility due to a weak trend indicated by the average directional index (ADX)(14). Frequent battles between buyers and sellers can be seen in the average directional movement index (ADX)(14), which changed direction throughout the bullish journey.

The moving average convergence/divergence (MACD) (12,26,9) descended, creating a negative divergence for the price action above the 50-day MA. Therefore, MRK was unable to break the resistance at $32 initially.


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FIGURE 1: MRK, DAILY. The stock awaits the bullish breakout of the flag and pennant pattern due to the reluctant RSI(14).

An attempt was made to breach the resistance. But it failed since the bearish strength pulled down MRK from the fresh high at $34 in October. The stock plunged to challenge the 200-day EMA. A bullish crossover of MACD (12,26,9) in negative territory and a developing uptrend in Figure 1 added significant bullish force to convert the resistance at $32 into support. The rise in volume helped sustain the newly formed support.

The red portion of the support/resistance tool shows resistance at $32-$34, and the green highlights the support for MRK. The relative strength index (RSI) (14) surged into a bullish area above the 50 levels, indicating a fresh trading point for buyers. Thus, many traders would have triggered long positions above $34. Since $34 was an immediate high for the breakout at $32, the best low-risk entry was possible only above $34. Later, the stock consolidated in a narrow range between $36 and $37 as seen in Figure 1. The consolidation formed a very short-term bullish flag and pennant formation.

The MACD and ADX are bullish, which would maintain the bullish sentiments toward the rally. Although the RSI (14) is bullish, it seems reluctant to climb higher than the 70 levels. As a result, the bullish breakout of the flag and pennant pattern might get delayed, but would not harm the breakout. Therefore, traders can set a new long trade after the confirmed breakout at $37 with the target of 37 - 34 = 3 + 37 = $40.

NEXT: Technical Look at the Weekly Chart for MRK

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FIGURE 2: MRK, WEEKLY. After the bullish breakout of the rounded bottom, MRK has established robust support at the 200-day exponential moving average.

The pattern in Figure 1 is for short-term traders, but those looking for a long-term investment, there is an interesting trading opportunity on the weekly time frame in Figure 2. Here, MRK has bottomed out by forming a rounded bottom. This pattern is a bullish reversal pattern and the breakout occurs as the price breaches the MA resistance. In Figure 2, the stock formed higher lows after a huge bullish engulfing candlestick pattern was developed. Gradually, MRK moved toward the 200-day EMA and marginally turned sideways before actually breaking upward. After many volatile sessions, MRK successfully converted the 200-day MA resistance to support. This breakout is the best long-term buying opportunity.

The RSI (14) has moved vertically upward, suggesting the developing bullish strength in the rally. The MACD (12,26,9) is also positive. But the ADX (14) is weak with equal buying and selling pressure, and as a result, the stock is likely to consolidate till the strong uptrend is developed.

Since MRK has established strong support on the 200-day MA on the weekly time frame, the breakout is likely to sustain. The minimum estimated level on the rounded-bottom breakout is measured as 33 - 19.54 = 13.46 + 33(breakout level) = $46.46. Thus, in the long run MRK is likely to be an attractive stock.

By Chaitali Mohile

Chaitali Mohile is an active independent stock trader and expert in technical analysis.

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