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Trading stocks stuck in a trading range

Sideways patterns are rare, but they do happen. When you spot one, take a hard look at the fundamentals of the security. If they’re sound, take advantage.

I love to see markets and stocks stuck in a trading range. Quite frankly, they are hard to find but, if you can find one, they are the easiest pattern to trade off of. The methodology is simple. While the stock or market is caught between a fairly obvious level of resistance (the ceiling) and a level of support (floor), you can buy off of the bottom. From there, you look to sell at the top of that range. If the chart breaks below support, you sell. If it breaks above resistance, hang on for the ride.

When trading within a range, I wait for a bounce off of the bottom, typically 3 days or more, to confirm its success in that bounce. I cover this rule in my book Sideways. I then look to sell at the top of the range UNLESS my associate, Craig Aucoin (Craig is the fundamental analyst here at ValueTrend), walks into my office insisting the fundamentals will likely carry it through that ceiling. However, if markets are suggesting overbought conditions, I am less likely to be convinced. It’s a hot discussion, at times. But that’s what makes ValueTrend work so well. On every trade, the fundamentals and the technicals must agree.

A super powerful move up

Here’s an interesting observation I have made over 30 years of trading: if the stock breaks through resistance (ceiling) after a prolonged trading range, it can result in a super powerful move up from there. That’s why it’s sometimes wise to wait and see if the stock will break through. Mind you, if it shows signs of faltering at that ceiling, you want to get out of the trade as fast as you can. It’s difficult to guess if the top of a range will break as price reaches that level—after all, it’s failed at that ceiling multiple times in the past. You are fighting history if you wait. But it happens. Just look at the long sideways move on Pembina Pipeline (TSX—PPL) followed by the powerful move down upon the breakdown from that range. Note its long journey back to the top! Disclosure: we own PPL in our platforms.

Here are some stocks that are currently stuck in trading ranges. On their charts, you should ignore the singe-event break of the support during the March 2020 COVID market crash. I tend to view that event as a one-off panic move. All my examples below are suitable candidates for range-bound trading. Obviously, you need to do your own research on these examples before trading them, given that past performance may not repeat itself. After analyzing the security or market, and assuming it meets your criteria for a worthy investment, the process is simple within a range-bound market. Buy on a test of support (the floor). Sell near the ceiling unless there is a compelling (really compelling!) reason to hope for a breakout. If the support line breaks, sell after a few days. If the ceiling once again fails, sell immediately. Simple!

Martinrea International Inc. (TSX—MRE)

Here’s an interesting example of a Canadian stock that’s been stuck in a sideways pattern since 2017. Martinrea tends to find a floor near $9.50, then rally to $15. From there, it finds a reason to fall back down to $9.50.

Shanghai Composite Index (SHA—000001)

Doesn’t get much simpler than this—buy at the bottom, sell at the top. Wash, rinse, repeat!

iShares Russell 2000 ETF (NYSEARCA—IWM)

The Russell 2000 tends to get trapped in trading ranges. It’s in one right now. These ranges—no coincidence—tend to take place during the midpoint of the year when seasonal forces suggest market participants take risk-off positions. When everyone goes back to work in the fall, seasonal forces push the Russell 2000 higher. I believe you can play the bottom of the range AND hold it for a potential breakout in the fall. We don’t own the IWM shares, but we are watching them for an entry point.

Aecon Group Inc. (TSX—ARE)

We just finished trading this stock for the third time in five years. Sure, it could break out. Craig fought me a bit on this one—but we agreed that the broad market forces are a bit bearish in August and September—which may push the stock back a few dollars. We’d buy it again. But for now, we scored yet another successful trade on Aecon following its relatively predictable trading range. Buy near the lower line, sell near the top line. Paint by numbers trading!

Netflix Inc. (NASDAQ—NFLX)

Netflix isn’t as neat and tidy as was IWM above. But you can see that it’s currently stuck in a very tight trading range. Unless some devastating news comes out on the company, my bet is that this stock will break out this winter. Meanwhile, one could consider entering at the bottom of the range with an eye on a quick ’n dirty (albeit not overly profitable) trade—and hope for a breakout. Place your mental stops if you decide to enter early. If it breaks below the floor it could get ugly. (The stock trades near 50x earnings, so it ain’t cheap.)

Amazon.com Inc. (NASDAQ—AMZN)

The world’s biggest and best store has been trading in a range for a year, as it has done in the past. It tried breaking out, but the forward guidance provided by the company dampened the market’s enthusiasm. So, it’s still home on the range again for AMZN. Watch for a breakout or a test of the floor.

Conclusion

As noted in the opening of this article, sideways patterns are rare for a stock or a market. But they do happen. When you spot one, it’s often a good opportunity to take a hard look at the fundamentals of the security. If they appear sound, the trading pattern is a simple one to take advantage of. Good luck!

Keith Richards is Chief Portfolio Manager & President of ValueTrend Wealth Mgmt. He can be contacted at info@valuetrend.ca. He may hold positions in the securities mentioned. The information provided is general in nature and does not represent investment advice. It is subject to change without notice and is based on the perspectives and opinions of the writer only. It may also contain projections or other “forward-looking statements”. There is significant risk that forward looking statements will not prove to be accurate and actual results, performance, or achievements could differ materially from any future results, performance, or achievements that may be expressed or implied by such forward-looking statements and you will not unduly rely on such forward-looking statements. Every effort has been made to compile this material from reliable sources; however, no warranty can be made as to its accuracy or completeness. Before acting on any of the above, please consult an appropriate professional regarding your particular circumstances.

This is an edited version of an article that was originally published for subscribers in the September 2021, Second Report of The MoneyLetter. You can profit from the award-winning advice subscribers receive regularly in The MoneyLetter.

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