Tuesday, December 06, 2016

Bearish Divergence in FITB - Nearing a Top or Just a Pause?

Fifth Third Bancorp (NYSE: FITB) appeared on one of my pullback screens, today, and upon closer inspection, it is indeed tracing an interesting, and somewhat conflicting, pattern on the daily chart.   It's worth a closer look.

FITB Daily Chart
FITB has been in an uptrend since 11 February 2016, however that's the first point of contention in the analysis of this chart.  In conducting an Elliott Wave analysis, we must first determine the point of origin for the impulse wave.  One possible point is the red "O" labeled at the low on 11 February.  It looks clear enough, right?  That's obviously our starting point for this impulse, isn't it?  Well, it does indeed trace five well-defined sub-waves, so on that score it qualifies.  The problem, though, is that the low on 13 May - a low that would mark the bottom of sub-wave (iv) in this case - is lower than the high of 21 March - a high that would mark the top of sub-wave (i).  That is a violation of one of the Elliott Wave rules in which wave 4 cannot penetrate wave 1.  So, unless we accept this rule violation, the wave count in red cannot be correct.  Note that Elliotticians are split on this topic, with many saying that this rule is more of a guideline than a hard-and-fast requirement.  I'm inclined to agree with them since, in most chart analysis, "close is close enough."

Let's follow-through with the red wave counts, however.  If the red counts are correct, then Wave 3 is longer than Wave 1, albeit by a hair (4.85 to 4.66.)  That satisfies the rule that Wave 3 cannot be the shortest of waves 1, 3, and 5.  Wave 5 is somewhat troubling in that it's an extremely steep impulse that far exceeds the angles of waves 1 and 3.  Now, that's not a rule violation, but it is definitely rare.  Looking at the pattern drawn by waves 2 and 4, there's really no problem there.  They adhere to the alternation rule, and wave 4 doesn't penetrate wave 1. 

If this count is correct, then we likely reached the top of this 5-wave impulse on 23 November.  That would put us into the A-B-C corrective pattern now, and that pattern has yet to fully develop.  Is the red count the correct one?  Possibly.  Let's look at the green count for comparison purposes.

The origin of the green count would be on 6 July 2016, and marked with the green "O."  Waves 1, 2, and 3 look pretty straightforward, and none of the subwaves violate any of the rules or even the guidelines.  We (so far) have good alternation between waves 2 and 4, although it's more common for wave 4 to be the steep retracement, not wave 2.  The steep acceleration seen in wave 3 is very common for that wave, so that's consistent with the overall pattern as well.  The shape of wave 1 is more consistent with the shape of an impulse where, whereas the shape of the red-labeled 1 is more consistent with the shape of a corrective wave.

If we were only considering the price chart, I would be inclined to consider the green wave count to be the correct count.  Chart analysis, however, is much more than just the patterns produced by price alone.  With these two wave counts in mind, let's turn our attention to volume.

Look at the three areas I've highlighted in orange.  Demand is certainly abundantly present.  Those black volume bars tower over their neighbors, and far exceed the 50 period volume moving average.  The only troubling sign is that each subsequent set of spikes is lower than the previous set.  Demand is starting to wane - a sure sign that this stock is running out of gas.

This is confirmed at the bottom of the chart where I saw the 9-period RSI.  The RSI is the "relative strength index" developed by Welles Wilder, and - without going into the actual formula - it measures the relative amount of gains vs the losses in the specified period.  There are several ways of using the oscillator in technical analysis, and one of the most reliable methods is to detect divergence between the RSI and the stock price. 

A bullish divergence would occur if stock prices were tracing lower highs but the RSI was tracing higher highs.  Conversely, a bearish divergence would occur if the stock prices were tracing higher highs but the RSI was tracing lower highs.  That, in fact, is what we see on our chart.  I mark the comparison highs with a vertical black dotted line, and you can clearly see that the RSI is tracing a bearish divergence.  This divergence is another major indication that the stock is running out of steam, and a breakout to the downside may soon follow.

The last three candles are troubling, as well.  2 December saw a long red candle on volume that was higher than the 50-period average.  That, coming off the new high of the day before, is a bearish reversal candle.  It was followed immediately by an inside day where the stock closed below its open.  Today it traced a hanging man candle - another bearish indication when this pattern appears at the top of an uptrend.

When we take volume, the RSI bearish divergence, and the current candle patterns into consideration, I'm inclined to believe that the red count is the correct count.  It's still not certain, of course, but all indications are that this stock is due for a bearish reversal.  Before we start to analyze potential price targets to the downside, I'd much prefer to see an indication that the reversal is in progress.  A quick glance at the chart, however, shows a very attractive target between 21.73 and 22.07, bounded by a strong support line at the base of the last major upthrust and the 38.2% retracement of the overall pattern.  We have yet to move in that direction, of course, but the warning signs are clear that this stock's upward run may be nearing its end.  I'll be avoiding long positions in this stock for the time being.

Happy Trading.

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