Up for the Downstroke: Six Sellable Stocks for Traders

When a market like the Russell 2000 is up five days in a row, taking many stocks with it, many traders can think only of the gains they might make with a sixth, seventh or even eighth day in a row.

But traders who have been around the block a few times know that when a market looks priced for perfection, the only possible reaction ultimately is disappointment and, in the short-term, a downward correction. This is especially true for stocks that are already in a weakened state, evidenced by the fact that they are trading below their 200-day moving averages.

For traders looking to fade or short rallies, this is one of the key conditions to look for: a stock that has shown itself to be weak by trading below the 200-day moving average that happens to be masquerading as some superstar stock by rallying for a few consecutive days, or by sporting a lofty, overbought reading on an indicator like the Relative Strength Index. Such stocks are proverbially whistling past the graveyard, hoping their jaunty tune will distract from the knocking of their trembling knees.

In the same way that traders looking for plays to the long side are often best off waiting for stocks to "come in" or move lower before buying, traders looking to fade or short rallies can often improve their results by looking for those weak stocks that are experiencing atypical strength. Although there are many traders who think that it is far more effective (or at least profitable) to short strong markets that look to have "run out of steam" to the upside, our research suggests to us that the edge--over the long term--is simply not on the side of these kinds of trades. Shorting strong stocks--like tugging on Superman's cape or spitting in the wind (as Jim Croce used to sing)--might make you feel heroic. But in the long run, there may be no surer road to ruin.

What is an example of the kind of temporary strength that smart, patient traders can exploit? One is simply to look for a series of consecutive up days, at least five in a row or more. Our research tells us that when stocks that are weak (i.e., trading below their 200-day moving average) move up day after day after day, they are often setting up their investors for a rude correction as their temporary strength is exposed and the weakness that has characterized the stock for weeks or months reasserts itself.

Sometimes this happens as a result of savvy short-selling by traders who know better than to try and buy the short-term strength of a 98-lb weakling stock. But many times all that happens is some unfortunate investor who rode these weak stocks all the way down essentially gets bailed out by a trader who believes that the weak stock is ready to rocket to the upside. All those investors who had been holding on to their losing stocks suddenly get the gift they had been waiting for: some bottom-feeding trader who will take that loser off their hands. These investors are all too happy to sell their "down-a-lot" stock, grateful for the chance to recoup at least a fraction of their losses.

Unfortunately, because the stock is a weak stock, there are a lot of those grateful investors. And their rush to sell just as the stock appears to be bouncing off the bottom is, sadly for our bottom-feeding trader, exactly what sends that stock back down again. The investor who should have sold some time ago has managed to make the best of a bad situation by selling the bounce. The trader, on the other hand, has nothing but losses--and perhaps a sore backside from kicking him or herself for trying to buy a "dead cat bounce".

Recent bullishness, particularly in the small cap arena of the Russell 2000, has created a number of bouncing felines for short-sell minded traders to consider. As such, I will only highlight those six stocks with the absolute lowest PowerRatings, the weakest of the weak, which should be near the top of any list of stocks that may have drifted higher in recent days, but are likely destined for lower levels in the near-term. I am also noting the 100-day historical volatility (H.V.) of each of these 1-rated stocks to help traders determine which of these stocks are more likely to respond with greater movement and, potentially, greater profit potential.

Pff Bancorp (PFB | Quote | Chart | News | PowerRating). H.V. 81.82

Amis Holdings (AMIS | Quote | Chart | News | PowerRating). H.V. 77.07

Redwood Trust (RWT | Quote | Chart | News | PowerRating). H.V. 72.36

Acuity Brands (AYI | Quote | Chart | News | PowerRating). H.V. 61.01

La-Z-Boy Incorporated (LZB | Quote | Chart | News | PowerRating) H.V. 58.47

Ligand Pharmaceuticals (LGND | Quote | Chart | News | PowerRating) H.V. 57.28

For more information on trading stocks with 5+ Consecutive Up Days, click here.