Cup and Handle Breakout in KFRC with Flag Forming

All systems appear go-for-launch with KForce, Inc. (NASDAQ: KFRC,) the Tampa, FL based temporary and permanent placement agency that released very strong earnings and revenue numbers on Tuesday, 6 February.  While it took a couple of days for the good news to sink in, a vertical move over the last four trading days pushed the stock to a 2-year high and resulted in a breakout of a year-long cup and handle formation on confirming high volume.

Today's analysis will focus on the daily chart.

KFRC Daily Chart

The cup formation in the pattern started on 2 March 2017 with a failed test of a longer term high set on 8 February, just a month earlier.  The round-bottom cup formed over the remainder of 2017, tapering off into a consolidation pattern to end the year.  The handle represented a nice 12% decline off the right lip of the cup.  Of significance, however, is that volume throughout the entire development of the handle was well below the 50-period volume-EMA.  That's a major sign that the decline into correction territory was without conviction and wouldn't be sustainable.

Following the strong earnings release, we can see the 4-day vertical rise that may well be the development of a flagpole.  We'll watch this for the next couple of days to see if the flag or pennant actually does form.  The spinning top candle on Friday, appearing below the 50% mark for the day, suggests that it will.

A closer look at the handle itself shows that we attempted a breakout on 14 Feb, however we retreated to close precisely at the top of the right rim. The actual close occurred the next day, with a very strong bullish candle.  The spinning top on Friday, however, suggests a pause or pullback to, or slightly below, the breakout line.  Given the choice, a second thrust above the breakout level is the one we'd prefer to play.  Just remember that we're not always given that opportunity.

A closer look at the technical indicators shows a lot of confirmation around that handle breakout.  The RSI(9) broke a down-trending resistance line on that same day.  The MACD(5,34,5) confirmed with a bullish crossover.  The JDK RS Ratio continued an upturn above the 100 level, and JDK RS Momentum followed suit. (It's always a good sign when both the RS Ratio and the RS Momentum indicators are showing improvement above 100.)  Finally, the Relative Strength vs the S&P broke a down-trending resistance line as well.

Volume, as we mentioned, was extremely depressed through the handle formation but began its rise heading into the earnings release.  Breakout day and the day following the breakout experienced the highest volume of the entire formation, and the On Balance Volume indicator turned sharply upward to intersect a horizontal resistance level.

For a short-to-intermediate term trade, this is a long stock only.  There's nothing that we are tracking to suggest a potential short play, here. Our strategy now is to watch the next couple of days for either a flag or pennant to develop or, if that doesn't happen, to play a break above Friday's candle if there's a continued move upward on volume above the 50-day volume EMA.  We do expect a pullback before entry, but we also need to be prepared to go long if the pullback doesn't manifest.

The price target for the Cup and Handle will be $34.23.  If a flag develops, then the price target for that flag play will be $3.34 above the level of the breakout.  Either way, the play at the moment is long.

Happy Trading.

Cup and Handle May Signal FLO Recovery

Following three consecutive quarters of earnings beats and some positive forward guidance, Flowers Foods, Inc (NYSE: FLO) may have finally turned it around.  A string of quarterly revenue misses dating back to November, 2015 put extreme pressure on the share price which bottomed at $13.56 in August of 2016.  Since then, the company embarked on a restructuring plan that is still a major work in progress.  The results are beginning to materialize, however, with their earnings beat announced on Wednesday, 7 February.

What caught our attention in the wake of last week's stock market turmoil was the relative strength FLO demonstrated while much of the broader market was getting crushed.  Tuesday through Friday were all up days with significant strength.  In fact, there was a missed short term opportunity with FLO since it drew a double bottom with a very strong bullish candle on Tuesday, then confirmed the double bottom with a breakout on Thursday.  The stock is now already trading too close to the double bottom price target for it to be a profitable play there, however.

For those interested in an intermediate term play, it's worth looking at the Cup and Handle drawn by the stock on the daily chart from February through the breakout of the Handle at the end of the last trading session. 

FLO Daily Chart

The target price from the breakout is $23.52, representing the 78.6% extension of the right rim of the cup from the bottom of the cup.  Now, there's a fair amount of resistance right at the breakout level, so do expect the stock to retrace back to that resistance level at least once.  The bounce off that retest would be the safest entry, and given the underlying volatility in the market, that's precisely when I intend to enter. 

Looking at some of the other technicals lining up on the chart, we can see that this breakout also involves a channel that formed from the low of the cup last August. That channel did breakout once before, and you can see that it offered a bit of support towards the end of 2017 before collapsing.  Be cognizant of it, however, it's also more likely that the support will hold the second time around.  (If it doesn't, get out of the trade fast.)

There are two cautionary tones in the RSI(9) and in the MACD(5,34,5.)  Both are showing a bearish divergence which should give us pause.  The MACD just drew a bullish crossover, but I'm concerned about that divergence.  It's another reason to wait for a pullback to support before entering.

Relative Strength - the bottom-most indicator I'm showing - is sitting right on a resistance line.  I'd really like to see RS break through that line and hold before entering as well.  When you look at the JDK-RS line and the JDK-RS Momentum line, all indications are that it should do just that.  RS is improving, and more importantly, the momentum of the RS line is improving. 

We're going to play this as an intermediate length trade.  I expect it to take several weeks to reach the target after a true breakout - meaning, after a breakout and then a pullback to or just below the breakout level.  By waiting for that pullback, though, we'll be able to set a much more aggressive stop just below the handle top, and set ourselves a much better risk/reward ratio.  It should also give the overall market time to settle down a bit and show us its true next move.

Add this one to your watch list and wait for the pullback.  There's no point in rushing the trade given the volatility in the broader market.

Happy Trading.

MDT Cup and Handle Setting Up Long

I've stated several times in the past year that I do not trade based on indicators.  My decisions to enter or exit a trade are made based on a price and volume analysis, and my trading plan requires me to trade in the direction of the overall trend of both the stock and the market.  "The market" in this sense, depends on the stock being considered.  The default chart layout that I use includes a correlation line (which I don't normally show in these articles) between the stock and each of the major indices: S&P 500, S&P 600, S&P 400, NASDAQ Composite, and the Dow Jones Industrial Average.  Whichever index shows the highest correlation value for that stock is the one I use as "The Market" for that stock, and it's the trend the price must follow for me to enter a trade.

In today's article, we will analyze Medtronic, Inc. (NYSE: MDT), a Large Cap Health Care stock that trades on the NYSE.  Based on that, we would expect MDT to correlate to either the Dow Industrials or the S&P 500, wouldn't we?  Well, here are the full set of indicators I use to analyze my stocks, shown for MDT on daily chart.

MDT Daily Chart Indicators

Well, there's a surprise!  MDT, at least for now, correlates best with the NASDAQ Composite, and it has done so since at least late November.  So when we look at market trends, for now we need to look at the NASDAQ Composite index, and possibly the S&P 500 since that is also showing a strong correlation.  The Mid cap, Small cap, and Dow Industrials are pretty much irrelevant in this case.

Now, the reason I mention indicators at all is because I do use them to scan for stocks worth analyzing.  The scan that found MDT, today, was a "MACD ZLR scan."  This scan looks for stocks where the MACD(5,34,5) Line approached the zero line from the top, barely brushed it, and then moved higher.  Since "close is close enough" in trading, I use a range of 2% above and 2% below the zero line to calculate "zero".

For Stockcharts.com users, here is the scan.  You may copy and paste this directly into the Advanced Scan Workbench and modify the basics to meet your own trading preference.

[type = stock] AND [country = US] AND [sma(63,Daily Volume) > 1000000] and [[exchange is NYSE] or [exchange is Nasdaq] or [exchange is Amex]]

and [Close >= 20.00]
and [Close < 100.00]

and [2 days ago macd line(5,34,5) >= [2 days ago max(252, macd line(5,34,5)) - 2 days ago min(252, macd line(5,34,5))] * .02]
and [yesterday's macd line(5,34,5) <= [yesterday's max(252, macd line(5,34,5)) - yesterday's min(252, macd line(5,34,5))] * .02]
and [yesterday's macd line(5,34,5) >= [yesterday's max(252, macd line(5,34,5)) - yesterday's min(252, macd line(5,34,5))] * -.02]
and [today's macd line(5,34,5) >= [today's max(252, macd line(5,34,5)) - today's min(252, macd line(5,34,5))] * .02]

and [
[group is ConsumerStaplesSector]
or [group is CyclicalsSector]
or [group is EnergySector]
or [group is FinancialSector]
or [group is HealthCareSector]
or [group is IndustrialSector]
or [group is MaterialsSector]
or [group is TechnologySector]
or [group is UtilitiesSector]
]

This is for long setups only.  You can use it for short setups by changing the first and last MACD test to be a <= comparison and changing the first and last MACD calculation to be -.02.  The middle two MACD tests remain unchanged.

What this setup does is identify stocks that have shown signs of a resurgence to the uptrend.  I use it to attempt to locate stocks that may be exiting a Wave-2, Wave-4, or Wave-B corrective wave.  Remember, though, that all trades are based on the price and volume action, not the indicators.  They are only used to find stocks that must then be properly analyzed.  

So, after that rather lengthy introduction, let's take a look at MDT.

MDT Daily Chart

The dominant features on the chart start with that significant gap down on 22 November.  From its position at the time, identifying the type of gap would have been problematic.  It's position makes it unlikely it was a breakaway gap since a downtrend was already in progress, although it could qualify as a continuation gap.  Subsequent price action, however, suggests that this was really an exhaustion gap.  The volume pattern around the gap suggest a selling climax, and the downward move met a lot of demand on 3 January with a strong bullish reversal candle.

The post-gap pattern now resembles a cup-and-handle formation.  It's even more pronounced if you draw the cup excluding the three low spikes and stick to the bottoms of the candle bodies.  Now, normally we think of cups-and-handles as appearing at the top of an uptrend and representing a pull-back followed by a resumption of the uptrend.  There's nothing that requires such an entry into the pattern, however, and the general psychology of the market participants creating the pattern remains the same when it represents a reversal off the bottom.  In both cases, we have a pattern high from which there was a significant pull-back. The high was retested - the right rim of the cup - and price showed a weak retreat on declining volume off that retest - the handle. 

In many ways, the handle also resembles a flag or pennant, and it can certainly be traded as such. When the right rim of the cup is relatively steep, as it is with MDT, it can act as a flagpole and provide a price target nearly identical to that of the cup-and-handle price target.

Before we talk about our trade strategy, there are a couple of other chart items we should review.  There's a weak resistance line formed from the last bullish spike before the gap and the last retest of the cup.  That resistance line is where price closed on Friday, constituting a third-touch of the line.  If price retreats from here, that line could gain significance, so we do need to watch behavior early in the week.

Notice that both the RSI and MACD show a bullish divergence.  That's encouraging and suggests a resumption of an uptrend that is still in progress on the weekly and monthly charts.  (I'll post them at the end of this article, but not discuss them due to the growing length of today's review.)  One word of caution, though.  Both the RSI and MACD are momentum indicators. While they measure two different aspects of price, we do need to be careful when using them together since they can give a false appearance of signal strength.  If you trade based on indicators, I recommend using only one momentum indicator along with a volume indicator, a trend indicator, and price action. 

With all this in mind, there are two ways we can trade this stock.  Current price action signals an aggressive long entry on a break above the diagonal resistance line.  Protective stop could be set below the low of Friday's candle, below the low of Thursday's candle, or most conservatively, below the low of the handle.  As each setting increases risk, be sure to adjust position sizing to mitigate that increased risk. 

Using this aggressive entry, the conservative price target is the high of the cup.  It's a high probability target in that it would represent a third test of that high.  For an entry at this point, though, that's really the only safe conclusion we can reach.

The second more conservative approach is to wait for a close above the high of the cup rim.  A protective stop would be just below that support line that also represents the 50% retrace of the gap to low pattern.  The price target, however, is shown above in green, representing a range straddling the 100% retrace of the gap combined with the 61.8% extension of the cup-and-handle formation.  This setup has a higher reward to risk ratio than entering on the handle, and it allows time for the stock to penetrate the resistance at the cup rim.

Depending on market behavior, I'm tempted to play both setups, but that's a decision I'll finalize when I see how the futures are looking before the open Monday and Tuesday.  If there isn't sufficient strength to push the stock quickly from this level to the rim, I'll pass on that trade and watch for a rim break before entering long.  Patience is always a virtue in trading.

Here are the weekly and monthly charts, respectively.  They're included so you can see the additional analysis that setup what we are watching on the daily chart.

Happy Trading.

MDT Weekly Chart

MDT Monthly Chart

XLNX Tests Highs in Cup and Handle Pattern

Xilinx Corporation (NASDAQ: XLNX) completed a double top pattern that extended from August to October, meeting the price target for that pattern in mid-October.  The stock is now tracing an imperfect Cup and Handle pattern and is poised to breakout to the upside.

XLNX Daily Chart

That the pattern is imperfect is evidenced by the steep decline following the double top.  That decline constitutes the left side of the cup, and in an ideal pattern that would be a rounded pattern, not a sheer drop.  The right side of the pattern, however, rising from the low, does form a nice arching bowl, complete with a well-defined handle.

The top of the handle formed at a very strong resistance line, marked with a dotted tan line on the chart.  Yesterday's session signaled a test of that resistance, with a very strong candle on high volume.  The setup has potential of an imminent breakout with a price target of 57.39 for the overall pattern.  There is some overhead resistance at the top of the double top as well as at the 52-week high, so be careful in the early stages of the breakout.  That setup could just as easily produce a triple-top bull trap, so proper risk management is essential.

Here's how we're playing this one:

• Since there is the potential for a bull trap and the cup and handle pattern is flawed, we're reducing our position size by 1/3.  
• If the stock breaks to the upside, we'll go long with a 57.39 price target.  Our stop will be just below the low of the handle.
• If the handle breaks down and the stock moves to the downside on high volume, we'll attempt to catch a short position with a price target of 49.54.  That represents a major support line formed by the bottom of the cup as formed by the true bodies of the candles at the low.
• There's not enough evidence on the chart to play a triple-top short since that would require a breach of that 49.54 support level.  That's a major support line, so we'll have to watch for confirmation before entering a short at that point.

Risk Management will be critical in this trade.  Remember, we have a major OPEC announcement coming at 10:00 AM EST today, and that may introduce volatility into the market for at least the rest of this trading day.  Money Management is always at the core of our trading strategy, so that, by now, should be second nature.  Still, given some of the uncertainties in this pattern, we think it prudent to reduce position size as a cautious measure.

Happy Trading.