Stocks that have been in strong uptrends warrant paying attention to. When a stock has a lot of momentum, pullbacks are often followed by another powerful move higher. Traders miss these opportunities for two primary reasons: the stock looks too expensive because it has already moved up, or they don’t want to buy the pullback when it starts to fizzle for fear of it dropping further. Stocks that look expensive can continue higher, as long as they continue to produce buy signals, and pullbacks typically show some characteristics that indicate the pullback is nearing an end and a new up wave is starting.
Univar, Inc. (UNVR) traded below $11 in early 2016 and has rallied as high as $33.15 in 2017, a more than 200% advance. Since that high, in March the stock has pulled back about 10%, which is a healthy correction. In March the price fell to $28.78, bounced, and then in April fell to a slightly lower low of $28.63. The stock quickly stabilized, though, and then rallied on increased volume. That slightly lower low, and then a rally, is something to look for in corrections. If the stock tries to go lower and can’t, the path of least resistance is up. On April 20 the price moved above the descending trendline of the pullback, and on May 2 the price broke above the prior swing high on increasing volume. These signals, depending on which is used, produced buy signals between $30.58 (May 2 close) and $29.35. A stop loss order can go below the April swing low of $28.63. Consider a profit target of $34.50, although a trailing stop loss may produce a bigger gain if a strong upside run develops.
Mercury Systems (MRCY) has a very similar setup, advancing strongly since the start of 2013. The stock pulled back about 12% from the March high of $40.86. Initially, the price pulled back to $36.40 in late March and then dropped slightly lower to $36.09 in late April. This slightly lower low was followed by a strong rally. Volume on the two-day May rally is just slightly above the average over the last few months. Increasing volume, especially if the price moves above $40.86, would help confirm the signal. Consider trades between $39 and $37.50, with a stop loss below $36. A potential target is $44.50. Although, strong stocks can overrun a target leaving a lot of money on the table. Consider using a trailing stop loss instead. Chandelier exits, ATR stop and volatility stops can all be effective trailing stop loss indicators.
The Bottom Line
If a strong trending stock is still showing signs of strength, it can go higher. Strong stocks that form a double-pattern during a pullback—with the second bottom slightly lower than the first—often present good trading opportunities. The price should rally off that bottom, ideally on increasing volume. Strong stocks often tend to pullback about 10% to 20% from a high, so look for this pattern within that region of the high. Utilize a stop loss, placed below the recent major swing low, to help control risk. Place a profit target, or utilize a trailing stop loss to maximize gains on stocks that really run.
Disclosure: The author doesn’t have positions in the stocks mentioned.