It finally happened. On a total returns basis (factoring both dividends and price appreciation), the S&P 500 index finally pushed past breakeven yesterday, giving investors a glimmer of hope that the rest of 2016 could come with some more meaningful gains.
But don't let the recent rebound in stocks cloud your judgment. Investors are being punished for owning the wrong stocks in this environment too.
As I write, about 16% of the stocks in the S&P 500 are still down 10% or worse year-to-date. That's a pretty big chunk of the market that's still awash in red ink.
To keep the next batch of underperformers out of your portfolio, we're turning to the charts for a technical look at five "toxic" stocks that are showing red flags in March.
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 without further ado, let's take a look at five toxic stocks to sell.
First on our list of potentially toxic stocks is $20 billion veterinary drug developer Zoetis(ZTS) - Get Report . It's been a pretty rough year for Zoetis shareholders so far. Since the calendar flipped to January, this stock has shed about 17% of its market value.
The trouble is, Zoetis could have even further to fall thanks to a bearish continuation setup that's been setting up on shares for the last month and change.
Zoetis is currently forming a descending triangle pattern, a bearish continuation setup that's formed by horizontal support below shares (down in a range between $39 and $40 in this stock's case), and downtrending resistance to the upside. Basically, as shares of Zoetis bounce in between those two technically significant price levels, this stock has been getting squeezed closer and closer to a breakout through its price floor at $39. From here, if $39 support gets violated, Zoetis triggers a sell signal.
Relative strength, which measures Zoetis' price performance versus the broad market, is an extra red flag to watch here. Our relative strength line is still holding onto its downtrend from the beginning of 2016, which tells us that this stock is continuing to underperform the rest of the market right now. If $39 gets violated, look out below.
We're seeing the exact same setup in shares of UK-based telco BT Group (BT) . Like Zoetis, BT is currently forming a descending triangle pattern on the heels of a streak of underperformance. The big price level to watch here is the bottom of BT's support range at $32.
Why all of the significance at that $32 level? It all comes down to buyers and sellers. Price patterns, such as this descending triangle in BT Group, are a good quick way to identify what's going on in the price action, but they're not the actual reason a stock is tradable. Instead, the "why" comes down to basic supply and demand for shares of the stock itself.
The $32 support level in BT is a place where there has previously been an excess of demand for shares; 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 $32 so significant – the move would mean that sellers are finally strong enough to absorb all of the excess demand at that price level. Keep a close eye on that $32 level as we head deeper into March.
One final note: BT's price chart looks very "gappy." Those gaps may make the descending triangle look somewhat less well-defined than that of Zoetis, but they can be ignored for all intents and purposes. Those gaps, called suspension gaps, occur because BT's shares trade off U.S. hours on the London Stock Exchange. From a technical standpoint, they’re not significant.
Japanese telco NTT Docomo (DCM) is another gap-riddled overseas communications stock that's showing some cracks in March, albeit for a totally different reason. NTT Docomo has actually been an excellent performer in recent months, rallying more than 24% since last September -- a stretch when the S&P has barely been able to keep its head above breakeven. But it might be time to think about taking some gains off the table if you own NTT Docomo right now.
NTT Docomo is currently forming a double top pattern, a bearish reversal setup that looks just like it sounds. The double top is formed by a pair of swing highs that peak at approximately the same level; the sell signal comes on a violation of the trough that separates those two peaks. For NTT Docomo, that breakdown level to watch is support down at $22.25.
Momentum, measured by 14-day RSI in DCM, adds another red flag for shareholders to be aware of here. Our momentum gauge made a pair of lower highs at the same time that NTT Docomo's price action was testing the $24 resistance level for the second time. That's a bearish divergence that signals buying pressure waning in 2016.
Make no mistake, DCM's long-term uptrend is still intact for now, but a violation of support at $22.25 would be the first concrete signal that this stock is rolling over and you don't want to own it anymore.
St. Jude Medical
It doesn't get much more straightforward than what we're seeing in shares of $15 billion medical device maker St. Jude Medical (STJ) right now. St. Jude has been selling off since last summer, tumbling its way lower in a well-defined price channel. This week, as shares test the top of their channel for a fifth time, it makes sense to sell the rips in St. Jude.
St. Jude's price channel is formed by a pair of parallel trend lines that have corralled all of this stocks price swings since early last summer. Every test of the top of the channel so far has provided shareholders with an optimal selling opportunity before the subsequent leg down -- and St. Jude is getting swatted off the top of its channel again this week. From here, it makes sense to sell the bounce lower.
Waiting for this week's 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 St. Jude.
Generally speaking, so-called "sin stocks" have been holding up well in this market environment. No so for distiller Brown-Forman (BF.B) . This $20 billion alcoholic beverage firm has been making lower highs since last August, backsliding in a wide downtrend. Shorter-term, things aren't looking much better.
Since the beginning of February, Brown-Forman has been forming a head and shoulders top, a classic price pattern that signals exhaustion among buyers. It's formed by two swing highs that top out at approximately the same level (the shoulders), separated by a higher high (the head). The sell signal comes on a move through Brown-Forman's neckline – that's the $94 price level.
It's not a good sign for investors when the bearish long-term price action (the red dashed downtrend line on the chart) synchs up with the bearish near-term price action. If $94 gets violated here, $90 is the best-case downside target before shares find any semblance of buying pressure. It makes sense to avoid this stock until it's able to catch a bid above its downtrend line again. That's currently up at $102.
Disclosure: This article is commentary by an independent contributor. At the time of publication, the author held no positions in the stocks mentioned.