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Reverse Head And Shoulders For AT&T?

05/24/04 01:27:46 PM
by Steven Coffey

Right now, AT&T seems to be bottoming out in what would be the right shoulder of a reverse head and shoulders formation. Because the price isn't very much above the low part of the shoulder, right now would be a good time to buy before it starts going up and the risk/reward ratio becomes unfavorable.

Security:   T
Position:   Buy

A reverse head and shoulders formation is basically a bottoming pattern. It is formed when price is in a downtrend and makes a low, then a lower low, and then begins to go up. When it comes down again, that low is equal to the first low, two lows prior to the current. Thus, the two outside lows are the shoulders, and the middle one is the head. This is the reverse of the regular head and shoulders formation, which represents a top. The reverse head and shoulders pattern is confirmed when the price breaks above the neckline, which is either the high after the left shoulder, or the downtrend line that begins with that high. AT&T hasn't yet broken that key resistance level, however, it is just coming up from the bottom of the right shoulder, so this trade still looks attractive.

Graphic provided by:
Looking at the oscillators in the lower half of the chart, you can see the MACD is beginning to come up and appears to be about to cross the signal line. When the faster line crosses above the slower line, that's the signal to buy. However, because the MACD tends to be a lagging indicator, traders like to look at the MACD histogram (the bars in the center of the indicator which represent the distance between the two lines), as it provides advanced signals. The MACD histogram is coming up on this chart, a bullish indication that this stock may begin to rise. Another indicator on this chart is the RSI. The RSI has gone into its oversold zone and now appears to be coming back up. The buy signal for this indicator occurs when it rises up and out of its oversold zone, the area below 30. Just below the RSI on this chart is the stochastic indicator. Like the MACD and RSI, the stochastic is a momentum oscillator, and it is also beginning to come up out of its oversold zone. The MACD, RSI, and stochastic are all confirming each other on this chart, and they're indicating that the momentum has bottomed out and seems to be coming back up again.

One final indicator that I'd like to mention is the ADX, and I especially like the pattern that it's making. You can see that the black line bottomed out at 10 and has now risen above the 20 level. This indicates that the trend is strengthening, and that's what we want to see if the price starts going up. Also note the red (-DI) and green (+DI) lines. The -DI represents the force of any down moves in the trend. You can see that it has reached a relatively high level above 30 and now appears to be coming back down. This would indicate that the negative momentum is over, and now it's time for the momentum to turn positive. This is confirmed by the +DI, which has reached a low and now appears to be coming back up.

Reverse head and shoulders formations are reliable patterns that indicate a stock is bottoming out. If you can pay $17 for this stock, you should have an attractive risk/reward on this trade. The low for this week is $16.45. If it goes below that, you'll know it's time to get out. That exposes you to $.55/share of risk. On the other hand, if this stock goes up, it should go to at least $19, which would be the neckline. That provides you with $2/share of potential reward. That's a risk/reward ratio of 27.5%, and that's assuming this stock can't break above the neckline. If it does, your return will be even greater.

Steven Coffey

Steven Coffey is an independent stock trader with a background in Information Systems development and training. He resides in the Boston area.

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Date: 05/30/04Rank: 1Comment: an incredibly bad writer in my opinion.

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