Chart Smarts: Using Relative Strength to Find Winners

This was originally published in two parts on RealMoney (part one on Apr. 9, 2008 at 3:46 p.m. EDT, part two on Apr. 11, 2008 at 3:49 p.m. EDT). Both parts are being republished as a bonus for TheStreet.com readers. For more information about subscribing to RealMoney, please click here.

Before we go to the charts, I want to go over what I mean by "leading stocks."

The stocks that I buy always have a RS ( relative strength to the S&P 500) rating of 70 or higher over the last 12 months. (These data points can be found in Investor's Business Daily.) That means that these stocks are the top 30% of all stocks in the market based on price performance.

Most of the time, if you check the charts I post here, you will notice a RS rating of 80 or higher. That means I am only dealing with the strongest 20% of the stock market.

I do this because 125 years of stock market research shows that the best and biggest "monster stocks" every year had a RS rating of at least 80. If my stock does not have at least a 70, I won't even take a second look at it.

Now, of course, the RS line alone does not make a stock a buy or a sell. Only a well-formed chart pattern, with the stock bouncing off the 50-day moving average on heavy volume or breaking out on heavy volume, makes it a buy or sell.

Not only that, but that base must be formed near the stock's previous 52-week highs. I prefer this, as it means that once the stock breaks out, there will be no overhead resistance and hence no sellers waiting to unload at higher levels.

IBD's 125 years of stock market research on the greatest stock winners -- I have confirmed the research -- has proved that buying stocks hitting fresh 52-week highs (this is the key here; not the 100th time on the list) outperform fresh 52-week lows. This is why I always focus on the best leading stocks that are within 20% of previous 52-week highs.

For me, when it comes to the fundamentals, it is all about annual EPS growth, quarterly EPS growth, quarterly sales growth, ROE, profit margin, debt, mutual fund ownership and cash flow.

But along with good fundamentals, I want the stock to be within 20% of a new 52-week high, under very heavy accumulation, and forming and breaking out of a base of at least five weeks long (and preferably seven weeks) before actually making the purchase.

When everything lines up fundamentally and technically, there is only one more test: Is the general stock market in an uptrend or downtrend? If it's in an uptrend, then it is safe to invest. If not, knowing that three out of four stocks follow the market, the long should probably not be taken. That is, unless it is in a leading industry group -- the top 20% of groups based on price performance from IBD.Let's get to the charts.

Titan Machinery
Click here for larger image.
Source: TeleChart Gold
If Titan Machinery ( TITN) can pull back to the 50-day moving average on light volume and then bounce on strong volume, I would love to add to my long position in this leading retail/wholesale-building products stock.


Syniverse
Click here for larger image.
Source: TeleChart Gold
If Syniverse ( SVR) can bounce off the 50-day moving average one more time or move sideways for a few more weeks and then break out on strong volume, I would love to add to my existing long position in this leading telecom-wireless services stock.


Telemig Celular Participacoes
Click here for larger image.
Source: TeleChart Gold
If Telemig Celular Participacoes ( TMB) can pull back to the pivot point of the breakout area or the 50-day moving average on low volume and bounce on higher volume, I would like to get long this leading telecom-wireless services stock.


Bancolombia
Click here for larger image.
Source: TeleChart Gold
If Bancolombia ( CIB) can create one more cup-shaped base and break out to a new high on strong volume, I would like to get long this leading foreign bank stock.


First Financial
Click here for larger image.
Source: TeleChart Gold
If First Financial ( FFIN) can continue to move sideways for a couple more weeks and then break out to a new 52-week high, I would like to get long this leading banks-West/Southwest stock.


DRS Technologies
Click here for larger image.
Source: TeleChart Gold
If DRS ( DRS) can pull back on low volume to the pivot point area or 50-day moving average, I would like to get long this electronics-military systems stock on the next heavy-volume bounce off the 50-day moving average.

Last time part one, I gave you a rundown of what I mean by "leading stocks" and the criteria I go through when selecting potential investments. Since I had quite a bit of feedback on that column, I think I'll continue that train of thought and give you guys what you keep asking me for -- more charts.

With that said, this market is still drifting around in a range-bound pattern that is not very friendly to trend followers.

However, as I have been showing for the past few weeks, there are a lot of strong stocks making new highs that I am either long or looking to get long.

Let's get to the charts:

Patriot Coal
Click here for larger image.
Source: TeleChart Gold

If Patriot Coal ( PCX) can pull back on low volume to the pivot point or 50-day moving average (MA), and then bounce on heavy volume, I would love to get long this leading energy-coal stock.


Halliburton
Click here for larger image.
Source: TeleChart Gold

Halliburton ( HAL), one of the top oil- and gas-field services stocks, also needs to pull back on lower volume to the 50-day MA, and then bounce on heavier volume. At that point, I would like to get long.


Titan International
Click here for larger image.
Source: TeleChart Gold

Another interesting name is in the auto/truck-tire field. Titan International ( TWI) could offer an entry with a pullback to the pivot point or 50-day MA on lower volume, and then a bounce on heavier volume.


DirecTV
Click here for larger image.
Source: TeleChart Gold

The same goes for DirecTV ( DTV), a media-cable/satellite TV company. If the stock can bounce here at the 50-day MA and break out to a new high, I would love to get long.


Illumina
Click here for larger image.
Source: TeleChart Gold

With a bounce and breakout to new all-time highs, Illumina ( ILMN) would offer a terrific entry point, allowing me to get long this leading medical-systems/equipment stock.


Matthews International
Click here for larger image.
Source: TeleChart Gold

For Matthews International ( MATW) can break out to a new all-time high and get a heavy-volume bounce off the 50-day MA, this would look like a great long opportunity.


Nike
Click here for larger image.
Source: TeleChart Gold

Nike ( NKE) is another name that may be setting up for a long entry. If the stock can bounce right here and breakout or come near the old 2008 highs, a long opportunity would be offered.


Aegean Marine Petroleum
Click here for larger image.
Source: TeleChart Gold

If Aegean Marine Petroleum ( ANW) can work its way back up to the old October highs (get within 5% of the old highs), then move sideways or drift lower anywhere from five days to seven weeks, and then break out to a new all-time high, I would love to get long this leading oil- and gas-refiner.

Like always, if I get long any of these, I plan on cutting my losses with a close below the 50-day MA, if the stock does not move higher immediately. If it does move higher, then obviously I do not have to worry about cutting my losses, and instead can let the winning stock ride higher, taking my profits on the way up.

There is no doubt that this market is starting to look better, as bad news is being taken in stride and we are seeing lot more nice charts show up. If these top stocks can continue to move higher, and we can get the market to move higher on higher volume, there is no doubt I would like to continually dip all of my cash on the sidelines back into the market.

But as of now, the Nasdaq has traded on below-average volume the past 14 days! It came close on Wednesday, almost trading an average day's volume. But it still fell short. As long as the big boys are on the sidelines, I will make sure that at least half of my cash is there, too.

This was originally published on RealMoney . For more information about subscribing to RealMoney, please click here.

At time of publication, Hayes was long Titan Machinery (TITN) and Syniverse (SVR).

Joshua "MauiTrader" Hayes is CEO, president and founder of Big Wave Trading LLC, a Maui, Hawaii-based stock market advisory service. Hayes also runs BigWaveTrading.com, an online stock market commentary and stock selection service for short- and intermediate-term investment strategies using CANSLIM and other strategies. Under no circumstances does the information in this commentary represent a recommendation to buy or sell stocks. Hayes appreciates your feedback; click here to send him an email.

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