Where Technicals And Fundamentals Sing The Same Tune

03/23/04 09:57:55 AM

by Matt Blackman

Technical signals are good and can often be used to anticipate future price movement. But when technicals and fundamentals agree, your probability for success goes up.

Security: HILL
Position: N/A

All the great traders and technicians who I know agree on one thing: Trading and investing are not solitary practices in which only one technique should be used. Although giants in the field of technical analysis, John Murphy and John Bollinger do not limit their approaches to looking strictly at chart patterns. Both rely on analyses that examine a stock and the market from all possible angles. The more complete the picture, the better the confidence they have in their projections. This includes a study of company fundamentals, plus an analysis of the sector, industry and market.

In my article "When Technicals and Fundamentals Tangle," I showed a stock that gave a good chart pattern sell signal, but where fundamentals did not agree. With Dot Hill Systems Corp., this appears not to be the case.

Figure 1 � Daily chart of Dot Hill Systems Corp. (HILL) showing the complex head and shoulders top pattern that formed from June 2003 to March 2004 with the neckline break and probable downside target from the peak at $20.00 to $4.37. The target should be reached in about the same time it took from the head to the neckline break, which was six months. Chart provided by www.highgrowthstock.com Data provided by www.Quotes-Plus.com

The bearish head and shoulders top pattern alert recently sent by Recognia.com gives a downside target of $4.37 and target time of September. It is also supported by a number of fundamental factors.

First, the P/E ratio (trailing twelve months) at 40 is somewhat high but not outrageous. Ditto for the book value per share of $4.25. However, short interest is close to 10% of the float, which is above our 5% rule for shorts. The price-to-sales ratio is also somewhat high at 2.5. A strong value is 1 or less. Another concern for shorts is that revenue growth has been strong for the last four quarters, but as the semiconductor sector has been showing signs of weakness lately, this trend may be short-lived, which brings up another point. It is always a good idea to have sector strength support a buying or selling decision. It is not a good idea to short a stock in a strong sector or vice versa.

Of greater interest for shorts is that insiders sold approximately 30% of total insider holdings (1.596 million shares) on one day -- September 23, 2003 -- very close to the recent high of the stock (Figure 1). Certainly in this case, their timing was uncanny, making one wonder if they knew something about the company that we didn't. If the market is close to or has already hit the top of a bear rally, this is something to note as insider sales have been shown to be an accurate sell indicator in bear markets. The fact that in the market overall, the insider sell/buy ratio hit an all time high in February of $55 of shares sold for every share purchased, is not one to be overlooked, especially if you are in the bear market rally camp.

Like a criminal investigator, the trading detective does not limit himself or herself to looking at just one set of clues. They are all important. If the Nasdaq melts from here, led by the semiconductor sector, it could be a very nice ride down for those who see it coming and HILL looks like it could be a good candidate on which to hop a ride.

SUGGESTED READING:

Bollinger, John [2002] Bollinger on Bollinger Bands, McGraw-Hill

Murphy, John [2004] Intermarket Analysis, John Wiley & Sons

Using technicals and fundamentals together
http://www.highgrowthstock.com/Demos/default.htm

Price and fundamental data available
http://www.quotes-plus.com/data.htm

Some great information on identifying chart patterns
http://www.recognia.com/reference/patterndescr.htm

Matt Blackman

Matt Blackman is a full-time technical and financial writer and trader. He produces corporate and financial newsletters, and assists clients in getting published in the mainstream media. He is the host of TradeSystemGuru.com. Matt has earned the Chartered Market Technician (CMT) designation. Find out what stocks and futures Matt is watching on Twitter at www.twitter.com/RatioTrade

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