Filed Under:
Tickers in this Article: DFG, JPM, FISV, JOYG
When a stock falls under a consolidation or base, it often creates a situation where there is excess supply in the marketplace. While a stock is in the process of building a base, market participants are exchanging shares, as one side tries to build a position while at the same time another group attempts to liquidate or short sell the same issue. Once the stock moves to either side of the base, it signals that one side has tipped the scales in their favor and overwhelmed the other side.

When a stock drops below a base, it is usually retail traders caught holding the bag, and they will often try their best to hold on and get out at the breakeven point. This is why you will often see a stock fail as it approaches a prior support level from underneath. That level has become an area of overhead supply, as those underwater traders attempt to get out as close as possible to breakeven, or some prior profit level. With the recent pullback in the markets, several stocks have sliced through important support levels, thus creating a situation where there could be excess supply just above their current stock prices.

Delphi Financial Group (NYSE:DFG), for instance, recently broke under a base that had been forming for more than five months. It sliced through prior support on an increase in volume that should have participants who bought above feeling nervous. DFG is in the process of bouncing back into the low $20s, which was the bottom of the prior range. DFG may have a difficult time with this level, as many traders were surely caught off-guard by the sharp decline. (For related reading, check out The Rectangle Formation.)

Source: StockCharts.com

JP Morgan Chase & Co. (NYSE:JPM) also recently broke under a fairly large base. This is significant because until recently it looked like JPM would actually attempt a move to the upper part of the base. In early January, it bounced off the lower support level and rallied above its 20- and 50-day moving averages. However, it failed to reach its prior highs, and instead rolled over and formed a lower high. Worse, it went on to set a lower low soon thereafter. JPM is currently rising to test prior support and if the test is unsuccessful, JPM could be headed even lower.

Source: StockCharts.com

Fiserv Inc. (Nasdaq:FISV) is another stock that recently broke under a base. The base is extremely choppy, with FISV touching the top and bottom quite often. FISV broke under the base on an increase in volume recently, and any participants conditioned to buying the lows of the range and selling the highs may be finding themselves wondering if the pattern is broken. The $46 level is important to watch as this area may now be resistance. (For related reading, check out the Technical Analysis Tutorial.)

Source: StockCharts.com

Joy Global (Nasdaq:JOYG) has been a strong performer over the past several months, but it appears it may be under some pressure. It cleared a base in September and rallied sharply, tacking on almost 40% from the breakout area. It settled into a consolidation after setting a high in October. It attempted to break out again in January, but failed miserably as the markets fell under pressure. It undercut the entire consolidation in one fell swoop, and is starting to trade in a narrow range under the prior base. JOYG is in an interesting spot, with resistance above, but support fairly close underneath from the September breakout. It's possible that a failure near $50 could lead to a test of the prior breakout level near $43. (For more, check out Trading Failed Breaks.)

Source: StockCharts.com

Bottom Line
It's an interesting phenomenon that occurs when a prior support area becomes a resistance level. However, if you think through what market participants may be doing, it is logical that an area of importance will remain so in the near future. If buyers are lining up and supporting a stock at a certain level and that level fails, it makes sense that a large portion of them would look to get out at breakeven on a trip back to that level. This is how important levels form in the markets and as a trader, it often helps to think of what situation other market participants are in. With many of these charts trading below a large pool of underwater traders, it's very possible any rallies moving forward will be used as opportunities to get out of the position by investors. Use the Investopedia Stock Simulator to trade the stocks mentioned in this stock analysis, risk free!

At the time of writing Joey Fundora did not own shares in any of the companies mentioned in this article.

comments powered by Disqus
Trading Center