Rally Holds Promise for Further Upside

Sometimes, the gold mine is found under the outhouse. It may not be pleasant to dig there, but the profits can be phenomenal. This looks like a time to do some digging in the stock market.

The level of fear and indecision were particularly evident in the market Thursday. After an attempt to rally early in the session, the pervasive bearishness and apprehension pushed prices even lower, until we were very close to the Oct. 10 low.

We tiptoed up to edge of the abyss, but then, instead of plunging downward, a rally seemed to come out of nowhere. A 300-point loss became an even larger gain. It was not a huge volume move, and it looked very hesitant as it progressed. However, that is usually what a test of a prior heavy-volume low looks like. We are certainly not out of the woods, but the action Thursday was extremely encouraging.

An interesting sidebar was the action of the Arms Index. From a very bearish reading early in the day, it swung all the way to an extremely bullish reading. That tends to lend credibility to the rally. But, except on a very short-term basis, one bullish day does not do much to alleviate the extremely oversold moving averages we have been observing in recent days.

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To view a larger version of these charts (in some browsers), after clicking on the "larger image" link below the chart, mouse over the lower-right area of the chart until the icon with four arrows appears. Then click on that icon.

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Dow Jones Industrial Average

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Source: MetaStock

Arms Indices

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Source: MetaStock

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Oracle: Buy

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Source: MetaStock

Oracle (ORCL - commentary - Cramer's Take) has given us some very profitable moves in the past, and has provided reliable signals. Most recently, it looked like a sell back in September. Now that decline appears to have run its course.

The strength off the October low was enough to break the descending trendline. Now it has pulled back on lighter trading, but is holding well above the prior lows. This stock is giving us an opportunity to place a stop-buy order just above the top of the pullback, and only buy if the advance resumes.

(To do my Equivolume charting, as in the charts that appear in this column, I use a charting program called MetaStock. To learn more about this method, read my series of columns, Trading With Equivolume.)

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Varian: Buy

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Source: MetaStock

After a steep decline, Varian (VAR - commentary - Cramer's Take) appears to have found a strong support level. The first low, on Oct. 10, was tested about two weeks later. Then it moved higher on good volume and a wide trading range, breaking the descending trend line. Now it has formed a well-defined flag, which is very typical action, and usually leads to a further advance.

As with Oracle, above, I favor the strategy of letting the market decide when to buy it. A stop-buy order just above the top of the flag would serve to activate a buy only when the advance resumes.

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Norfolk Southern: Cover Shorts and Buy

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Source: MetaStock

On Sept. 10, Norfolk Southern (NSC - commentary - Cramer's Take) was bucking an already weak market, but looked as though it was ready to succumb to the pressure also. The downside volume through support prompted a sell-short suggestion at that time.

It did decline, but still acted relatively well, and now appears to be turning back to the upside. It looks as though it is likely to move back up from this vicinity. The pullback of the last few days gives us an opportunity to cover shorts and go long at an attractive level.

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OSI Pharmaceutical: Buy

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Source: MetaStock

Here is another short from September that now looks like a buy. (It is not hard to find successful past short recommendations in view of this market.) Notice that OSI Pharmaceutical (OSIP - commentary - Cramer's Take) came right down to the old support level of last spring. The turnaround last week produced a very big Equivolume box, denoting power. But the squareness of the entry suggested a pullback, which is what we have seen. The moving average convergence/divergence (MACD) and the two moving-average lines are crossed to the plus side. It looks like a buy on a resumption of the advance.

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Know what you own: Arms mentions OSI Pharma. Other companies in the pharmaceutical industry include Genentech (DNA - commentary - Cramer's Take), Bristol Myers Squibb (BMY - commentary - Cramer's Take) and Lilly (LLY - commentary - Cramer's Take).

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At time of publication, Arms had no positions in the stocks mentioned.

Richard Arms is a renowned stock market technician who invented the Arms Index (often referred to as the TRIN), which has become a mainstay of market analysis, appearing in The Wall Street Journal and Barron's. Arms also developed the widely used technical method Equivolume Charting. Since 1996, he has been publishing the Arms Advisory newsletter for money managers and financial institutions. He also has authored Stop and Make Money: How to Profit in the Stock Market Using Volume and Stop Orders, Profits in Volume, Volume Cycles in the Stock Market, Trading Without Fear and The Arms Index, and has been honored with the Market Technicians' Award for Lifetime Contribution to Technical Analysis. Under no circumstances does the information in this commentary represent a recommendation to buy or sell stocks. Richard appreciates your feedback; click here to send him an email.

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