Base-Building with Lowes

06/28/01 03:23:09 PM

by David Penn

Home improvement store Lowes built the base and provided the breakout. Will a brief correction pave the way to new highs?

Security: LOW
Position: N/A

Of all the things we look for stocks to do: setting new highs (or lows), bounding into head and shoulders patterns, shaking 'n' baking their way into ascending triangles ... one of the most mundane things is probably watching stocks build bases. While not quite as yawn-inducing as watching paint dry, waiting for a stock to build a base is nowhere near as dramatic as the "swoon and soar" of a cup and handle formation, or the doomed majesty of a triple top ...

But base-building is something most stocks spend much of their time doing. Moreover, catching the right stocks building the right kind of bases is one of the best ways to pick stocks that are primed for the next move up. There are a number of ways to track down "the right stocks". Examining tables of stocks reaching new highs is one way. Ferreting out market leaders can be another. Looking for the stocks of companies with dramatic earnings per share growth is still yet another. The reason you are looking for "the right stocks" is because it can be easier to get upside movement out of a base when the stock has every reason to go up anyway. While bases can be--and are--formed by all kinds of stocks, stocks that have reason to go up--because of outstanding fundamentals or exceptional buying volume--and are also busy base-building are the stocks to watch.

Figure 1: After breaking out of a month-long consoldiation, LOW shares test support at the top of the range.

Graphic provided by: MetaStock.

What do I mean by "the right kind of bases"? Essentially, the right kind of base is one that comes at the end of a significant move up. (For simplicity's sake, I will stick to the bullish case.) Consolidation zones, areas in which prices oscillate between horizontal lines of support and resistance, can make up some of the most promising bases. This is in part because prices have likely reached a sort of consensus or equilibrium with buyers and sellers more or less comfortable with the relatively narrow range of opinion on the value of a particular stock. In such situations, a gradual tapering off of volume is also preferred, which indicates that fewer and fewer people disagree with the consensus opinion(s) of the stock's value.

The base-building in Lowes (LOW) is not perfect. First of all, the base is only four or five weeks old--not too short, but probably near the low end in terms of duration. A base this long represents a month's worth of consolidation. Second, prices have tested the bottom of the base range only once, in late May. Although prices have moved higher--in fact, up and out of the base--seeing prices test the bottom range two or three times and then rally strongly is the preferred signal that the stock is ready to move up. All the same, the LOW base from mid-May to mid-June does have a number of the other, relevant base-building characteristics: the narrow range in prices (essentially 68 to 74) coming at the end of a sustained price advance (53 to 68 from mid-April to mid-May), as well as the decline in trading volume as the consolidation range begins through mid-June, when prices rally from the range bottom.

The breakout in LOW (from 74 to a high of 79) is currently under correction, as four straight days worth of advances were countered by a pair of correction days that have brought prices back to the top of the range. Should support hold at this point, LOW might likely retest its recent high of 79. While a re-entry into the consolidation area proper would not necessarily spell doom for the stock, it would suggest that higher ground for Lowes may have to wait until a bigger, better base is complete.

David Penn

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

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Base-Building with Lowes

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