There's a less bullish undertone to the market rally investors have been enjoying this year.
While the big S&P 500 index is up a whopping 4.7% since the calendar flipped to January, a surprising share of the individual stocks in the S&P aren't participating in that upside. As I write, one in four S&P components is down year to date.
That's not a new phenomenon. In 2016, a similar chunk of the S&P—132 stocks in all—totally missed out on the big index's double-digit rally, instead posting losses last year. Owning those "toxic stocks" is a massive drag on your portfolio. However, the good news is that simply avoiding those serial underperformers is enough to materially outperform the averages this year.
To find the stocks to avoid in February, we're turning to the charts for a technical look at five you should consider selling here.
For the unfamiliar, technical analysis is a way for investors to quantify qualitative factors, such as investor psychology, based on a stock's price action and trends. Once the domain of cloistered trading teams on Wall Street, technicals can help top traders make consistently profitable trades and can aid fundamental investors in better entry and exit points.
Just so we're clear, the companies I'm talking about today are hardly junk.
By that, I mean they're not next up in line at bankruptcy court, and many of them have very strong businesses. But that's frankly irrelevant to what happens to their stocks; from a technical analysis standpoint, sellers are shoving around these toxic stocks right now. For that reason, fundamental investors need to decide how long they're willing to take the pain if they want to hold onto these firms in the weeks and months ahead. And for investors looking to buy one of these positions, it makes sense to wait for more favorable technical conditions (and a lower share price) before piling in.
So, let's take a look at five "toxic stocks" to sell, and when to sell them.
Range Resources Corp.
Up first on the list is $7.8 billion energy stock Range Resources Corp. (RRC) - Get Report. Range has been a market laggard in the last few months, with shares losing a third of their market value since peaking back in June. The bad news is that Range Resources could be about to kick off a second leg lower from here.
Range Resources has spent the last several months setting up a descending triangle pattern, a bearish continuation pattern that's formed by horizontal support down below shares at $32, and downtrending resistance up above shares. Basically, as Range Resources' share price has bounced in between those two technically significant price levels, shares have been getting squeezed closer and closer to a breakdown through that $32 price floor. That finally happened yesterday.
RRC has an extra red flag showing up in the form of relative strength, the indicator down at the bottom of the price chart. Relative strength has been making lower highs in shares since this stock's June price highs, indicating that shares are still underperforming in 2017. Yesterday's drop below $32 opens up a lot more downside potential in this stock.
We're seeing the exact same setup in shares of $22 billion retail REIT GGP Inc. (GGP) . Like Range Resources, GGP has been forming a textbook example of a descending triangle pattern since topping back in the summer. The big difference here is that this setup isn't quite as far along as the one we just looked at. For GGP, the breakdown level to watch is support down at $24.
What makes that $98 level, in particular, so significant for GGP? It all comes down to buyers and sellers. Price patterns, like this descending triangle, are a good quick way to identify what's going on in the price action, but they're not the actual reason it's tradable. Instead, the "why" comes down to basic supply and demand for shares of the stock itself.
The $24 support level in GGP is a place where there has been an excess of demand for shares since November; in other words, it's a spot where buyers have been more eager to step in and buy shares than sellers have been to take gains. That's what makes a breakdown below $24 so important. The move means that sellers are finally strong enough to absorb all the excess demand at that price level.
Put simply, if GGP violates $24, it becomes a sell.
Sprouts Farmers Market
You don't need to know much about technical trading to decipher the price action in shares of Sprouts Famers Market Inc. (SFM) - Get Report. Unfortunately for shareholders, that's because this stock has looked toxic for the last year or so. Since last March, Sprouts has shed almost 40% of its market value, underperforming the rest of the market in a big way. Worse, that downtrend is still very much intact this winter.
Sprouts' downtrend is formed by a pair of parallel trend lines that have constrained 99% of this stock's price action for the better part of the last year. That means, as shares bounce off their test of trendline resistance for the 12th time this week, it makes sense to be a seller.
Waiting for that bounce lower before clicking "sell" is a critical part of risk management for two big reasons: it's the spot where prices are the highest within the channel, and alternatively it's the spot where you'll get the first indication that the downtrend is ending. Remember, all trend lines do eventually break, but by actually waiting for the bounce to happen first, you're confirming that sellers are still in control before you unload shares of Sprouts Farmers Market.
American International Group
For a salient example of what happens when a trendline does break, look no further than shares of insurance giant American International Group Inc. (AIG) - Get Report, better known as AIG. While AIG spent the second half of 2016 in rally-mode, pushing almost 30% higher since late-June, that all changed earlier this week when shares broke their uptrend on the heels of fourth quarter earnings.
That trend line break opens up a lot of downside risk in this large-cap financial stock.
What that doesn't mean is that shares of AIG are due to plunge again in February. While this week's violation of support was bearish, it's entirely possible that Wednesday's drop was most of the selling. More importantly for investors, though, the trend line break does mean that AIG is likely to underperform the rest of the financial sector, a place where there's no shortage of attractive buying opportunities right now. For that reason, AIG is a stock to avoid until shares can establish some semblance of an uptrend again.
China Petroleum & Chemical Corp.
Last on our list of potentially toxic trades is Chinese energy company China Petroleum & Chemical Corp. (SNP) - Get Report, better known as Sinopec. Sinopec has actually been a strong performer in recent months, taking advantage of upside in oil prices to rally double-digits since mid-November. But it might be time for Sinopec shareholders to think about taking some of those gains off the table. Sinopec looks "toppy" in the near term.
Since January, Sinopec has been forming a head and shoulders top, a setup that indicates exhaustion among buyers. The pattern is formed by two swing highs that top out at about the same level (the shoulders), separated by a higher high (the head). The sell signal came when shares violated their neckline at $78 in Wednesday's trading session. That breakdown means that now's the time to sell.
The side indicator to watch in shares of Sinopec is
, measured by a 14-day RSI at the top of the stock's chart. Our momentum gauge has made a series of lower highs since the pattern started forming, signaling that buyers are losing control of things as shares track sideways this winter. Buyers should wait for the selling to play out before thinking about getting long SNP in February.
At the time of publication, author had no positions in the stocks mentioned.