In active trading, one of the most popular tools that is used to predict a shift in a stock's momentum is known as the relative strength index (RSI). This indicator's primary purpose is to determine when a given rally is becoming overbought or oversold. Generally speaking, readings below 30 suggest that the stock has been pushed to an unjustifiably low level, causing most bullish traders to start looking for a strategic entry position. In most cases, traders will want to confirm the buy or sell signal by using other technical indicators such as the moving averages or support and resistance levels. Using a combination of technical indicators is an effective way to increase the probability that a predicted move will actually occur. Let's take a look at a few stocks that are technically oversold and could be poised to make a move higher.

IN PICTURES: 7 Tools Of The Trade

Tidewater Inc. (NYSE:TDW)
Taking a look at the daily chart of TDW, you'll notice that the bears have been in control of the direction for the past several weeks. Notice how the selling pressure has caused the RSI to fall below the 30 level. Generally speaking, an RSI reading below 30 suggests that a stock is oversold and that it may be a prime candidate for a move higher. Many traders will wait on the sidelines until the indicator is able to cross above the 30 level - a sign that the recent selloff was overextended and that the bulls are starting to step back in. In addition, many traders will want to confirm the short-term buying pressure by watching for other bullish signals to occur. In this case, you'll notice the stock has fallen toward the medium-term support level that is illustrated by the horizontal trendline. The recent bounce off the trendline could suggest that buyers are starting to step back in. Specifically, it is interesting to note that the $41.20 level has propped up the price in the past (shown by the black arrows) and traders will use the move off this level to suggest that the stock is forming a base. It wouldn't be surprising to see many bullish traders set their stop losses below the support level because it would allow them to be protected in case the market correction continues.

Source: MetaStock

L3 Communications. (NYSE:LLL)
LLL is another company that has been dominated by bearish price action, which has caused the RSI to fall into oversold territory. As you can see from the chart below, recent price action has caused the RSI to move above the 30 level, which will likely be used by active traders to suggest that the bulls are getting ready to stage a move higher. The chart is a textbook case of how levels of support and resistance can often switch roles. In this case, the $80.75 level acted as a strong level of resistance for most of 2009 and now that LLL is trading above it, traders will expect it to become a strong level of support. (For a quick refresher on this topic, check out Support And Resistance Reversals.)

Source: MetaStock

Eli Lilly & Co. (NYSE:LLY)
Taking a look at the chart of LLY, you'll notice that the stock has been dominated by selling pressure and, as a result, the price has been pushed into oversold territory. The recent cross back above the 30 level on the RSI indicator suggests that the bounce off the $32.25 level might have more merit than the bears are giving it credit for. This chart looks very similar to the others and it wouldn't be surprising for traders to set their stop losses directly below the medium-term trendline (shown by the horizontal line). A break below this level would likely be encountered by a flood of sell orders, and could therefore be used as a sign that there is more selling pressure to come.

Source: MetaStock

Arcelor Mittal (NYSE:MT)
The last chart that I've chosen to look at today is MT because it is also in the process of bouncing off an interesting level of support.
The rising RSI value combined with the bounce off the $28.75 level suggests that the long-term base is still intact and that the current price level could make for an interesting long-term entry position. As mentioned in the charts above, the RSI's recent move above 30 will also be used by traders to confirm the recent strength and it could lead to a continued move higher.

Source: MetaStock

Bottom Line
Recent market weakness has sent the share prices of all the companies that are listed above to very influential support levels. It is my opinion that the recent selloff is presenting investors with strategic long-term entry positions and is offering a very interesting risk/reward scenario in each of the cases. As mentioned above, the RSI indicator's move above 30 also suggests that buyers are stepping back into the market and it may be used by other traders as confirmation of a continued move higher.

Use the Investopedia Stock Simulator to trade the stocks mentioned in this stock analysis, risk free!

Related Articles
  1. Chart Advisor

    4 European Stocks to Consider Buying

    European companies, listed on US exchanges, that are providing buying opportunities right now.
  2. Chart Advisor

    ChartAdvisor for October 2 2015

    Weekly technical summary of the major U.S. indexes.
  3. Investing

    How Diversifying Can Help You Manage Market Mayhem

    The recent market volatility, while not unexpected, has certainly been hard for any investor to digest.
  4. Technical Indicators

    Why MACD Divergence Is an Unreliable Signal

    MACD divergence is a popular method for predicting reversals, but unfortunately it isn't very accurate. Learn the weaknesses of indicator divergence.
  5. Chart Advisor

    Expecting a Big Breakout In These 4 Stocks

    These stocks are tightly wound following big moves, and upon breakout more big moves could ensue.
  6. Chart Advisor

    Trade Base Metals With These 3 ETFs

    News out of Alcoa is causing active traders to turn toward base metals for opportunities. Before diving into the market, check out the charts of these three ETFs.
  7. Charts & Patterns

    The Importance Of Tracking The Whisper Number

    Don't let the name fool you: Whisper numbers are making themselves heard. Here's why you should be paying attention.
  8. Chart Advisor

    Stocks With Buy Signals in a Bear Market

    The short-term trend may be down, but these stocks are showing strength to the upside.
  9. Chart Advisor

    ChartAdvisor for September 25 2015

    Weekly technical summary of the major U.S. indexes.
  10. Chart Advisor

    Downtrending Stocks to Short or Sell

    These stocks are trending lower and currently near a short sale areas, based on breaks lower and falling stock indexes.
  1. What are some of the most common technical indicators that back up Doji patterns?

    The doji candlestick is important enough that Steve Nison devotes an entire chapter to it in his definitive work on candlestick ... Read Full Answer >>
  2. Tame Panic Selling with the Exhausted Selling Model

    The exhausted selling model is a pricing strategy used to identify and trade based off of the price floor of a security. ... Read Full Answer >>
  3. Point and Figure Charting Using Count Analysis

    Count analysis is a means of interpreting point and figure charts to measure vertical price movements. Technical analysts ... Read Full Answer >>
  4. What assumptions are made when conducting a t-test?

    The common assumptions made when doing a t-test include those regarding the scale of measurement, random sampling, normality ... Read Full Answer >>
  5. How are double exponential moving averages applied in technical analysis?

    Double exponential moving averages (DEMAS) are commonly used in technical analysis like any other moving average indicator ... Read Full Answer >>
  6. How do you know where on the oscillator you should make a purchase or sale?

    Common oscillator readings to consider making a buy or sale are below 20 or above 80, respectively. More aggressive investors ... Read Full Answer >>

You May Also Like

Trading Center
You are using adblocking software

Want access to all of Investopedia? Add us to your “whitelist”
so you'll never miss a feature!