Financial stocks are on fire right now, and there is still money to be made in the sector.
The SPDR Financial Select Sector ETF (XLF) - Get Report handed investors total returns approaching 24% in the last year -- that's nearly double what the rest of the S&P 500 managed to return over that same time frame. Most critically of all, about 87% of that performance has come since November. The financial sector rally isn't a price trend that's getting long in the tooth here -- we're talking about a trend that's just hitting its full stride.
Of course, that doesn't mean it's a good idea to start buying financials indiscriminately. The sector may be muscling its way higher, but a handful of breakout trades stands to lead the pack. To figure out which financial stocks you want to own in 2017, we're turning to the charts for a technical look at five that are breaking out in January.
In case you're unfamiliar with technical analysis, here's the executive summary: 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 planning their stock execution.
Without further ado, here's a rundown of five technical setups that are showing solid upside potential right now.
Leading off the list of financial sector movers is Australian bank Westpac Banking (WBK) - Get Report. This $80 billion bank stock has seen choppy trading in the past year, but the latest sideways range in shares is actually what's signaling a buy. Here's how to trade it:
Westpac Banking is currently forming an ascending triangle setup, a bullish continuation pattern that's formed by horizontal resistance up above shares at $24.25, and uptrending support to the downside. Basically, as Westpac bounces in between those two technically meaningful price levels, it's been getting squeezed closer and closer to a breakout through that $24.25 price ceiling. When that breakout happens, we've got our buy signal.
Don't get thrown off by the abundance of "gaps" on Westpac's chart. Those gaps, called suspension gaps, occur because Westpac's shares trade off U.S. hours on the Australian Securities Exchange and New Zealand Exchange. From a technical standpoint, they're not significant but a breakout through the $24.25 level is.
We're seeing the exact same price setup in another overseas financial sector stock: Korean bank holding company KB Financial (KB) - Get Report. Like Westpac, KB is currently showing investors a textbook example of an ascending triangle pattern, in this case following a nearly 30% rally in the last 12 months. After that up-move, the ascending triangle is the breakout pattern to watch for another leg higher. For KB Financial, the big breakout level to watch is resistance up at $38.
What makes that $38 level so important for this stock? It all boils down to buyers and sellers. Price patterns, like this ascending triangle setup, are a good quick way to identify what's going on in the price action, but they're not the ultimate reason shares look attractive here. Instead, the "why" is driven by basic supply and demand for KB's shares themselves.
The $38 resistance level is a price where there has been an excess of supply of shares; in other words, it's a spot where sellers have previously been more eager to step in and take gains than buyers have been to buy. That's what makes a breakout above $38 so significant. The move means that buyers are finally strong enough to absorb all of the excess supply above that price level.
It doesn't get much simpler than the setup we're seeing in $50 billion digital payments stock PayPal (PYPL) - Get Reportright now. Since the end of June, PayPal has been bouncing its way higher in a well-defined uptrend. PayPal is still a "buy the dips stock" this January -- and shares are sending an important buy signal this week.
PayPal's uptrend is formed by a pair of parallel trendlines that have identified the high-probability range for this stock to remain stuck within all year long. In a nutshell, every test of trendline support so far has provided buyers with a low-risk, high-reward opportunity to build a position. Now, as PayPal moves off support for the fifth time, it makes sense to buy the bounce off of the bottom of the channel.
Actually waiting for that bounce is important for two key reasons: it's the spot where shares have the most room to move up before they hit resistance, and it's the spot where the risk is the least (because shares have the least room to move lower before the channel breaks, invalidating the upside trade). Remember, all trend lines do eventually break, but by actually waiting for the bounce to happen first, you're ensuring PayPal can actually still catch a bid along that line before you put your money on shares.
Public Storage (PSA) - Get Reportis providing an especially salient example of what happens when a trendline does break -- but in this case, the trend reversal is bullish. Public Storage started off the year strong, but shares peaked back in early April, trending lower in the intervening months. The good news for investors is that this real estate investment trust could be about to lead the financial sector higher after breaking out above its price channel.
Public Storage's breakout actually happened back in early December. Since then, shares have been consolidating sideways, giving this stock a chance to bleed off some momentum after a big push by buyers. But PSA ended 2016 by pushing to new multi-month highs, an indication that the change in trend is complete in this stock and shares are likely to see higher ground.
If you decide to buy Public Storage in 2017, it makes sense to park a protective stop on the other side of the 50-day moving average. That's because, if the 50-day gets violated, it means that Public Storage is falling through a key support zone and you don't want to own it anymore. Right now, this looks like a textbook trend reversal.
Another big REIT reversal trade that's showing up this week comes from Realty Income (O) - Get Report. While REITs have been the worst-performing segment of the financial sector, dragged lower by the dividend-bashing effects of rate hikes from the Fed, many REITs are finally looking "bottomy". In the case of Realty Income, a breakout from a classic reversal pattern is pointing at higher levels in 2017.
Realty Income has spent the last few months forming an inverse head and shoulders pattern, a classic bullish price setup that signals exhaustion among sellers. The inverse head and shoulders pattern is formed by two swing lows that bottom out at approximately the same level (the shoulders), separated by a lower low (the head). The buy signal came on a move through Realty Income's neckline at the $57 level, which got confirmed in yesterday's session.
Price momentum, measured by 14-day RSI, is the side-indicator to look at in Realty Income. Our momentum gauge has made a series of higher lows during this stock's inverse head and shoulders setup, a bullish divergence that indicates buyers are stepping in behind the scenes. If you decide to pull the trigger on Realty Income here, consider parking a stop on the other wide of the right shoulder down at $54.
This article is commentary by an independent contributor. At the time of publication, the author held no position in the stocks mentioned.