With the broader market trading near its all-time highs, I'm on the lookout for catch-up candidates with clearly defined support areas. These stocks tend to offer trades with attractive risk/reward profiles.
Shares of fast food restaurant operator Wendy's (NASDAQ: WEN) are down 2.4% in 2014 compared with a 10.4% gain in the S&P 500. But with earnings out of the way and the stock displaying strength on its weekly and daily charts, WEN looks ripe for a bullish trade.
Wendy's blamed the weak results on a 10-basis-point decline in company-operated margins to 15.5% on higher commodity costs, especially beef prices.
Yet, the stock closed 2.4% higher on the day and is up 5.6% since the announcement. Investors were likely cheered by the 2% increase in comparable store sales for the quarter and management reaffirming its full-year outlook. Furthermore, they announced a $30 million cost-cutting initiative.
On the weekly chart, it is interesting to note that WEN rallied off its late 2008 lows and peaked in early 2009, just as the broader market put in a bottom. From 2009 until early 2013, WEN traded in a narrowing range with shares coiling up before finally springing higher.
So, after underperforming on a relative basis for several years, the breakout in early 2013 offered a lucrative catch-up play. WEN rallied sharply and without much pause for about a year before exhausting itself with a final burst higher in February 2014.
Momentum had shown signs of topping in the summer of 2013, while shares continued higher, forming a negative divergence that finally caught up with WEN.
The stock dropped 20% in two months before settling into a consolidation phase that it remains in to this day. This was a bullish technical development, as it helped shares digest the large 2013 to early 2014 rally.
The consolidation phase is beginning to be challenged by the recent bullish price action.
On the daily chart below, note that after bottoming in mid-October with the broader market, the stock rallied to its 200-day simple moving average, which had served as resistance since May.
he post-earnings rally on Nov. 6 formed a bullish outside day, which ultimately led to a push marginally past the 200-day moving average. Over the past few days, WEN consolidated and tightened its price action just above this line. This suggests the next move will be to the upside.
The first important support area is the 200-day, followed by the $8.30 level.
Recommended Trade Setup:
-- Buy WEN on a daily close above $8.55
-- Set stop-loss at $8.35
-- Set initial price target at $9 for a potential 5% gain in 3-6 weeks
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This article was originally published on ProfitableTrading.com: Under $10 Stock Due for a Quick Catch-up Rally