Forgotten Blue Chip Just $1 Away From A Buy Signal

Thursday, May 28, 2015 - 1:30pm

by Michael Kahn

Despite its blue-chip status, it's been a long time since International Business Machines (NYSE: IBM) was an elite stock. Since peaking in March 2013, long-term investors saw their holdings shrink 30% into the December 2014 low, highlighted by a massive price collapse in October. 

Big Blue was more black and blue.

However, the good news is that after months of sideways trading, the stock started to heal. Indeed, the trend has been to the upside all year.

IBM Stock Chart

Stocks that suffer the damage seen here are rarely instant buys. In the stock market, low price does not necessarily mean "on sale." Indeed, IBM rested for a few weeks before tumbling one more time into its final low.

It was so damaged on the charts that traders seemed to stop caring. Never mind that it carried a hefty dividend yield at that point. Even today, it yields 3%, making it of great interest to long-term holders and income seekers.

But how will we know whether the stock is a phoenix rising and not just a dead cat bouncing? 

The first part of the answer is time. 

Has the low-level trading range grown to a size commensurate with the declining trend it hopes to reverse? This is subjective, but a six-month trading range seems reasonable at the end of a 21-month decline. 

Next, we look at technical movement. 

IBM broke out to the upside from its range last month as volume surged. Momentum indicators were already climbing, too. And barring a major sell off, the 50-day moving average is on track to cross above the 200-day moving average within days.

After its April move higher, the stock ran into overbought conditions in the short term. And for the past three weeks, it moved sideways again to allow it to shake out the froth. 

What is interesting is that the ensuing pattern formed at the halfway point to the upside target suggested by the larger trading range itself. The height of the pattern projected up from the breakout is often a good indication of where the stock will go, and for IBM that would be near $180. That is also where resistance from the top of the October gap down decline will go into effect.

That gives traders plenty of time to assess the situation and prepare for the likely resumption of the rally. A breakout from the current short-term range, which takes the form of a triangle, would be the trigger. 

The support level of the pattern is near $168. This is also where the 50-day moving average currently resides, so it is important for this level to hold. 

Aggressive traders can buy immediately with a tight stop on the assumption that support will indeed hold. However, more conservative traders should wait until the stock proves that it is back in rally mode with a move over $173, where the sloping upper border of the triangle will be in a few days. 

Income traders may wish to buy now or on a breakout, and put their shares in a high-income brokerage account, which almost all traders can easily convert their existing account to without any hassle. Learn more here.

A target of $180 is not much of a reach after the breakout, but this trade works by exploiting the tendency for pattern breakouts to travel one, two and sometimes even three times the height of the pattern from which they break out. The second target is close to $195, and that, coupled with the dividend, presumed to be available to shareholders in early August, is much more attractive. 

Recommended Trade Setup:

-- Buy IBM above $173
-- Set stop-loss at $168
-- Set initial price target at $195 for a potential 13% gain in 10 weeks

This article was originally published on ProfitableTrading.com: Forgotten Blue Chip Just $1 Away From a Buy Signal

Michael Kahn does not personally hold positions in any securities mentioned in this article.
StreetAuthority LLC does not hold positions in any securities mentioned in this article.