- A follow-through day can signal further upside for stocks.
- A meaningfully higher close on higher volume on Friday means it was a follow-through day.
- A key characteristic of a healthy market after a follow-through day is that investors buy breakout stocks rather than sell them.
- Watch this leading drugmaker and defense contractor to see if they can build on recent momentum.
After registering extremely oversold readings on various indicators, the S&P 500 finished higher on Friday on above-average volume. The performance was solid enough to check the boxes for a “follow-through day,” a concept developed by famed investor William O’Neil.
To qualify as a follow-through day, the market must first have an up day in a downtrend, such as October 13. Then, on day four or later, the market must trade meaningfully higher* on greater volume than the prior day, such as it did on Friday, October 21. Historically, the most potent follow-through days occur between days four and seven. It happened on day seven this time around.
(*There's some debate on how strong returns must be to qualify as a follow-through day. In a Twitter conversation today, O'Neil disciple Mark Minervini told me that 1% is enough. Mike Webster, another disciple, is more nuanced, preferring to adjust for volatility. Using his method, we'd need a 1.25% move right now to qualify. Other percentage returns are listed elsewhere online. If you want to see the conversation, follow me on Twitter @ebcapital )
Follow-through days suggest that the path of least resistance may be higher, but they’re imperfect. The market can resume its downtrend, so it’s essential to keep an eye on how stocks behave from here. For example, a key characteristic of solid action after a follow-through day is that stocks build upon breakouts rather than sell off.
So far, most breakout stocks have failed this year, making it challenging for investors whose strategy includes buying stocks when they trade above key levels, such as 52-week highs, or are moving out of down channels. We’d want to see buyers chase these stocks higher rather than sell strength if this rally is to have legs.
For this reason, now could be an excellent time to build a list of leading stocks to watch.
This big-cap biotech challenges a key level
Amgen (AMGN) is one stock that ought to be on that list.
In “Can Amgen Finally Make an Upside Breakout?,” Real Money chart expert Bruce Kamich points out that Amgen is making yet another attempt at new all-time highs. He writes:
“In the weekly Japanese candlestick chart of AMGN, below, we can see that the $260 level has been chart resistance for a long time. Rally failures date back to the early part of 2020. Prices are back above the rising 40-week moving average line."
Amgen has gotten within shooting distance of its past peak price several times over the past two years. It even traded above it, briefly, on January 28, 2021, before reversing to close sharply lower. Today, shares made their best attempt yet this year, touching $260 at about 1 pm, the highest level since April 2021, when it peaked at $261 before selling off.
Back to Kamich:
“The weekly OBV line shows us a very strong rise from late 2021 and tells us that buyers of AMGN have been very aggressive. The MACD oscillator is turning up for what I would anticipate to be a new outright buy signal.”
OBV, or On-balance volume, is essentially a running total of up minus down day volume. When it’s rising, it shows buyers are in control. Moving Average Convergence/Divergence (MACD) is a momentum signal. It subtracts the 26-day Exponential Moving Average (EMA) from the 12-day EMA. A bullish or bearish alert triggers when that result crosses over or below zero or a signal line, such as the 9-day moving average.
Kamich also reviewed daily and weekly point-and-figure charts to gauge where prices could be heading. The price targets on those two charts, respectively, are $319 and $323.
The combination of a strong OBV and bullish MACD leads Kamich to conclude, “Aggressive traders could go long AMGN on strength above $264. The $319 to $323 area is our first price target.”
Another stock for your list
Defense and aerospace contractor L3Harris (LHX) isn’t challenging new highs yet, but it did just break out above a key resistance line, and returns could be significant if its rally builds.
In “L3Harris Technologies Breaks a Downtrend Triggering Buy Signals” Kamich writes:
“Global aerospace and defense technology firm L3Harris Technologies LHX is on the move to the upside. In our last review of LHX way back on January 11, we wrote that "Traders could rebuy LHX on a dip back to $220 risking to $209. Our price targets are $249 and then $266.
Traders got to go long ahead of a rally to $280, and hopefully, they did not get stopped out. The charts of LHX are looking promising again, so let's check.
In this daily bar chart of LHX, below, we can see that prices have broken a downtrend (not drawn) from early March. LHX has rallied to close above the 50-day moving average line and above the rising 200-day line. Trading volume has increased since late August.
The On-Balance-Volume (OBV) line has been improving since July. The Moving Average Convergence Divergence (MACD) oscillator has just crossed above the zero line for an outright buy signal.“
If the rally has legs, the daily point-and-figure chart suggests “a potential upside price target in the $307 area.” The weekly chart maps out a target of $331.
Overall, Kamich concludes: “Unfortunately, the world is a dangerous place, and countries will continue to need the products from defense contractors. Traders could go long LHX on any two-day pullback. Risk to $222.“
The Smart Play
Amgen and L3Harris are trading higher despite lackluster top-line growth. In Q2, Amgen’s revenue only ticked up 1% as newer drug sales were offset by the loss of patent exclusivity on some of its biggest sellers. L3Harris’ sales slipped 11% year over year in the second quarter.
The bottom lines look better, though.
Analysts expect Amgen’s earnings per share to climb 21% to $17.51 this year and then by another 7% to $18.72 in 2023. In addition, they think L3Harris EPS will improve by 3% to $13.41 this year and by another 6% to $14.26 next year.
As a result, these stocks aren’t too pricey. Over the past five years, Amgen’s P/E low is 11, and its forward P/E is 13.9 currently. Meanwhile, L3Harris’ P/E low is 14, and its forward P/E is now 17.3.
It’s also worth noting Amgen’s short interest (days of the average trading volume necessary to cover all shares currently held short) is 6.4 days, which is relatively high compared to other big-cap drugmakers. For example, Gilead’s is 2.3 days, and AbbVie’s is 2.6 days. So if Amgen does break out, it could cause some shorts to cover, propelling it higher.
Dividend investors should also know Amgen’s dividend yield is 3%, while L3Harris’ dividend yield is 1.8%. Amgen's dividend has steadily increased every year since 2011, climbing from $0.28 per share per quarter to its current $1.76 per share pace. L3Harris' quarterly dividend has risen to $1.12 from $0.06 per share in 2005.
Nevertheless, Kamich doesn’t recommend hitting the buy button just yet. On Amgen, he’d like to see a close above $264 before buying, and he’d like to buy after a couple of down days on L3Harris.
Overall, if you’re interested in these stocks, set alerts once you’ve added them to your ‘break out stocks” watch list.
For example, you could take Amgen above $264 and then run a stop loss below the 200-day moving average. If you buy L3Harris closer to $240, consider using Kamich’s “risk to $222” as your line in the sand.