Dow component McDonald's Corporation (MCD) rallied to an all-time high last week, but the mega cap's publicly traded rivals including Yum! Brands, Inc. (YUM) and Darden Restaurants, Inc. (DRI) have failed to follow suit and continue to struggle well below their first quarter highs. The divergence raises doubts about the breakout's sustainability, especially with COVID-19 now rising again in the United States and around the world.

Key Takeaways

  • Darden Restaurants stock fell to an 11-year low in March.
  • Darden and other fast-food chains have underperformed McDonald's since that time.
  • Darden stock has reached heavy resistance, but underlying strength could add additional points.
  • The bounce since March is unlikely to exceed the $100 to $106 price zone.

This growing conflict could come into play in Thursday's pre-market when Darden – holding company for Olive Garden, Longhorn Steakhouse, and six regional brands – reports first quarter 2021 earnings. Analysts now expect the company to post a miniscule profit of $0.05 per share on just $1.55 billion in revenue, much lower than the same quarter in 2019, when the Orlando-based chain earned $1.38 per share on $2.13 billion in revenue.

Wall Street is growing more cautious about the restaurant sector and the stock, with Wedbush downgrading Darden from "Outperform" to "Neutral" on Monday morning. This call follows similarly bearish ratings posted by Raymond James and Stifel in recent weeks, despite recent industry data that Olive Garden is one of four sit-down restaurants to attract the most visitors since the rise of COVID in the first quarter.

Even so, analyst consensus on Darden stock still translates into a "Moderate Buy" rating based upon 15 "Buy" and 8 "Hold" recommendations. Price targets currently range from a low of $71 to a Street-high $112, while Darden is set to open Monday's session about $3 below the median $93 target. There's plenty of upside potential in this configuration but only if this week's earnings report exceeds expectations and is matched with positive forward guidance.

Divergence is when the price of an asset is moving in the opposite direction of a technical indicator, such as an oscillator, or is moving contrary to other data. Divergence warns that the current price trend may be weakening and in some cases may lead to the price changing direction.

Darden Long-Term Chart (2010 – 2020)

Long-term chart showing the share price performance of Darden Restaurants, Inc. (DRI)
TradingView.com

Darden stock completed a bounce into the 2007 high at $42.62 in 2010 and broke out, easing quickly into a sideways pattern that persisted into the second quarter of 2014. Committed buyers then generated a healthy advance into the August 2018 high at $124, ahead of a pullback that held short-term support levels. Price action spent all of 2019 attempting to break out, but the effort failed, yielding a lower February 2020 high followed by a vertical decline that hit an 11-year low in March.

The selloff found support at the .786 Fibonacci retracement of the 2008 into 2019 uptrend, while the bounce into September has stalled at .618 selloff retracement and underside of the 50-month exponential moving average (EMA), broken on heavy volume in March. This marks a high-odds reversal level, but the monthly stochastic oscillator is still engaged in a strong buying cycle, raising the odds for a final stretch into the .786 selloff retracement just above $100.

Darden Short-Term Chart (2018 – 2020)

Short-term chart showing the share price performance of Darden Restaurants, Inc. (DRI)
TradingView.com

The on-balance volume (OBV) accumulation-distribution indicator ended an accumulation phase at an all-time high in June 2020 and eased into a sideways pattern that reflects investor indecision. Price action peaked at the same time and returned to that level this month, exhibiting decent relative strength at the 200-day EMA even though OBV is rolling over. This divergence adds importance to this week's confessional because a sizable number of investors will need to come off the sidelines for the stock to resume its upward trajectory.

Accumulation typically refers to a position size in an asset that increases over multiple transactions. Accumulation can also refer to the overall addition of positions to a portfolio. It can also describe a general increase in buying activity in an asset. In this case, the asset is said to be "under accumulation" or "being accumulated."

The Bottom Line

Darden has underperformed McDonald's by a wide margin since the first quarter, but a better-than-expected earnings report on Thursday could ease this bearish divergence.

Disclosure: The author held no positions in the aforementioned securities at the time of publication.