The markets flashed another distribution day on Tuesday, making it the fourth high-volume down day in the past six days. While the markets have consistently battled back from any selling over the past several weeks, now is not a time to be getting reckless in buying weakness. More and more charts are showing topping patterns and even if the markets can avoid a correction, it may still take some time for these stocks to absorb the recent selling pressure.
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One of these stocks that is now showing a topping pattern is MIPS Technologies (Nasdaq:MIPS). This has been one of the better performing stocks over the past few months but it has recently come under pressure. The first warning sign was the quick failure of a breakout attempt early in 2011. MIPS fell under its 50-day moving average a few sessions later and then failed when it tried to reclaim the average. It proceeded to undercut the entire base and is now testing that level from underneath. MIPS has already completed a topping pattern by closing under its base. A failure here could lead to much lower prices.
Power-One (Nasdaq:PWER ) is another stock that recently undercut its base. PWER had been trading in a sideways range for months holding support on each pullback to approximately $8.35. However, PWER also was failing on any sincere rally attempt and the last breakout attempt in February led to a sharp gap down toward the bottom of the base. After a few days of hovering near the bottom of the base, PWER finally turned around and completed the top.
Walter Energy (NYSE:WLT) is a stock that could be in the early stages of topping out. It has been in a steady uptrend and appeared to be forming an ascending triangle, which is typically a continuation pattern. However, WLT dipped under this pattern a few days ago and has held beneath its 50-day moving average for a couple of weeks. WLT attempted to climb back into its base but could be failing here. Traders should keep a close eye on the $120 level to see which direction WLT takes from here.
While Korn/Ferry International (NYSE:KFY) hasn't technically completed a topping pattern, it is about as close as it can get. The bottom of the current base it is in lies near $22 per share and KFN is currently testing this level. KFN has also been unable to trade back above its 50-day moving average since dropping under this level several days ago. Traders need to watch this test, as a break under the current base would complete a top that projects down toward the $19 level.
The Bottom Line
While the indexes have continued to recover and hit new highs, the number of stocks topping out has been increasing. Participation in the current rally has been dwindling, showing a negative correlation. While it is feasible that the markets will continue to rise for some time, the topping patterns in many stocks will still take time to heal even in a best-case scenario. Under worst-case scenarios, many of these stocks could easily drop much further. Traders should keep an eye on how these stocks fare in their current tests of resistance levels as they could set up some shorting opportunities, especially if the markets are finally ready for a rest break.
At the time of writing, Joey Fundora did not own shares in any of the companies mentioned in this article.