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DOUBLE BOTTOMS


Russell Corporation's Double Bottom

03/09/01 03:02:36 PM
by David Penn

Following the business cycle and focusing on top sectors helped uncover Russell Corporation's rebound from lows not seen since 1987.

Security:   RML
Position:   N/A

Given a finite, yet boundless universe of stocks, what is the best way to go about finding the few worth trading? There are probably as many different approaches to trading as there are traders, and what works for one trader at one point in time may or may not work for another trader at another point in time . . .

But there are some "big picture" guideposts that all traders can take advantage of when looking for stocks that are more likely to be going up or more likely to be going down. One of the largest guideposts is the business cycle, which as a tendency to favor certain industries and markets at different points in the endless expansion/contraction process of our economy. For example, during the period when the economy has moved from a period of expansion often characterized by rising interest rates into a period of contraction marked by falling interest rates, certain industries, such as the financials and the consumer cyclicals (a category including everything from airlines and auto parts to retailers and restaurants) tend to outperform.

After a long, three-year descent, shares of Russell Corporation rally from a double bottom toward confirmation and year-to-date highs. The upside price objective from the double bottom is $34.
Graphic provided by: MetaStock.
 
With that in mind, I went searching through the charts of consumer cyclical stocks in the S&P, looking for bottom formations. I was looking for bottom formations in particular because I wanted as much upside potential as possible. I was also guided by a great interview done by our "Trader-in-chief" John Sweeney with market historian, Yale Hirsch, (December 2000, STOCKS & COMMODITIES) that suggested to me, in short, that March might be a good time to hunt for bottoms in anticipation of a March-April advance. What I found was Russell Corporation, makers of casual and athletic clothing, and a double bottom.

Double bottoms are classic bullish reversal chart patterns. They consist of two significant troughs that are at least a month apart. In fact, for this reason, searching for double bottoms on weekly charts can be more effective than using daily charts. There should also be a significant advance between the troughs--anywhere from 10% to 20%. The bottoms of the troughs should be of comparable depth, as well.

What does a double bottom represent, and why is it a bullish reversal pattern? Double bottoms tend to signify two separate, concerted efforts to drive low prices lower. Often, this selling meets resistance at a certain point (here, in the case of Russell Corporation, that resistance was at $12.14), and it is the repeated failure to breach resistance that helps provide the impetus for renewed buying. When prices, after a long period of declines, meet a point of resistance repeatedly, buyers often become convinced that a final bottom has been reached, the stock oversold, and a rally imminent. Russell Corporation, by the time it was testing $12.14 for the second time in late December 2000, had declined by more than 68% from its 1997 high.

But Russell Corporation is not out of the woods, yet. While the stock has rallied to about $20 from the second bottom, RML has yet to close above confirmation at $23. The $23 mark is both the top of the double bottom formation as well as the January high for the stock. A successful close above this level on strong volume, then, would be a good indication that the pattern was accurate and a continued rally likely. Using a measurement rule that adds the formation height (23-12) to the confirmation value of 23 gives us an upside price objective of $34, just above the 1998 high.



David Penn

Technical Writer for Technical Analysis of STOCKS & COMMODITIES magazine, Working-Money.com, and Traders.com Advantage.

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