I get asked often about how and when to buy assets that have taken a beating. My usual response is “buy after you see some kind of basing pattern.” Below I give three current examples of what I mean.
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Here are the five-year and one-year charts of GE. We all know the story: balance sheet overreach, fall from grace, flirt with bankruptcy, change in management, multiple asset sales, and now slow repair of the balance sheet.
The five-year chart pattern matches up nicely. We see progressively higher lows since late 2018, and a break out last October that appears to be consolidating into some kind of bullish flag.
GE will never be the company it once was, but one could easily imagine a narrative that takes it back to 20, once it gets through the residual overhead resistance between 12-14 we can see back in mid-2018. Some who caught this knife too early back then may be looking to get out once ‘back to even’.
On the one-year chart, GE is basically at 52-week highs, with a good base having been built between February and July of this year in the 10-10.50 area. In the short term, however, GE could pull back as far as 10.00 without it being worrisome.
Another balance sheet repair story that is showing a solid bottoming process is the home builder HOV. They re-levered and bought land banks too soon after the GFC and almost lost the company. Little by little, they too have repaired the balance sheet, bankruptcy is off the table, and they are just now returning to topline growth. The is the narrative, and it’s a pretty compelling one.
The tailwind to the sector is likely to last as well. Rates will stay some version of low for the foreseeable future, a true recession is unlikely for the next year, and supply from other home builders has been running scared for a decade.
You can see the scope for upside in the five-year chart. The basing pattern isn’t as clean on this one as it was with GE, but the pick up in bullish volume since the second half of this year is very convincing. This is one that could run to 40 pretty quickly and eventually to 50 or 60. You also would want to track the bond yield on this one (five-year CDS would do) to make sure the ‘normalization’ trend remains intact.
On the one year-chart you see another stock not far off its 52-week high, but with near-term scope to pull back further. I actually don’t expect it to get below 20 in this pullback, but if it did, I wouldn’t be worried about the overall pattern until it got to 15.
The final example is UBS. The five-year chart shows what looks like a bottoming process over the course of 2019, with higher lows since August. It too, like virtually the entire European banking, is laboring under the presumption of a bloated balance sheet and anemic growth. The pattern, in any event, suggests it might be ready to break out of that funk.
The one-year chart on UBS looks less stretched than GE or HOV. Traders would probably put their stop just below the 50dma, while an investor could let it pull back as far as 11.00 without being too worried. There is less upside in this name, though, so less payoff asymmetry. Another thing to be mindful of when sizing and setting stops.
It’s easy to imagine fallen angels like these getting a bid in a world where catching-up-without-too-much-downside-exposure is active manager catnip. And whenever you can get a narrative to line up with a solid chart pattern, the odds of it being a big winner increase significantly.