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I recently wrote that, while the downdraft in big-name technology stocks post-election had given the rest of the sector a bad rap, there were a number of smaller tech stocks with good technical patterns.
Semiconductors caught my eye a few days ago, and now software stocks are the ones catching my attention. A number of mid-cap software makers have already broken out to the upside, and more look like they're about to do the same.
One of my favorites right now is security software maker Check Point Software Technologies (NASDAQ: CHKP).
As we can see in the chart below, Check Point started to rally in October, but stalled as the election approached.
After Election Day, CHKP followed the market's lead with an early dip on the day after the polls closed, followed by a sizeable upside turnaround. But then shares stalled again.
This wasn't a bad thing, though. The October rally had taken the stock above its 200-day moving average for the first time since July, and the post-election blahs found support at that line. In technical analysis parlance, we call that a test of the breakout.
When the stock kissed the 200-day on Dec. 2, it immediately formed a bullish reversal by setting a new low and closing with a net gain on the day. Apparently, bulls thought shares were cheap at that point, and they pounced on the opportunity.
Barring a total price collapse in the next day or two, the stock will experience a golden cross -- when the 50-day moving average crosses above the 200-day moving average.
While the golden cross isn't the holy grail of technical events some analysts make it out to be, it signals the shorter-term trend is sufficiently organized to effect change on the longer-term trend. The math tells us that the longer average is now likely to turn higher.
To be sure, all moving average analysis is suspect when the averages involved are flat, as is the case with the 200-day here. They are supposed to be trend-following indicators, so there must be a trend in place to follow. But the 50-day is now clearly rising, as are the shorter averages such as the 20-day.
From a pure price action point of view, that is what we want to see in a stock. If we are to believe that trends persist once they get going (and we should), then buying a stock that is already rising is a good plan.
Now let's put all that into context with the long-term chart. It shows Check Point hasn't made any progress since early 2015, with shares setting up a rather large sideways range.
The current rally still shows CHKP swinging up from the bottom of the range toward the top near $89, which is where the initial target will be. From current levels, that would yield a gain of about 5%, but it should only take three weeks or so to get there. So, on an annualized basis, that works out to a more than 85% return.
If CHKP reaches the top of the pattern, it would be poised for a much larger breakout. After two years of sideways action, a move above the top of the pattern could release the proverbial hounds. In this case, the height of the pattern suggests an objective near $103, which is 22% above recent prices.
While this is not part of the current trading plan, consider it advance warning of a technical setup that could form soon. For those of you who are interested in seeing higher returns in the shorter time frame, there is a strategy that could turn the initial 5% upside target into 25% to 50% profits.
Recommended Trade Setup:
-- Buy CHKP at the market price
-- Set stop-loss at $82.50
-- Set initial price target at $89 for a potential 5% gain in three weeks
Many investors hold strong opinions about the 200-day MA... but is it actually important?