Clif Droke
©2002 - 2007 Publishing Concepts

A look at some profitable trades using the turnaround technique  

Turnarounds.  They are given great lip service to them in the financial press.  So-called "turnaround artists" are paid millions to help rescue companies from bankruptcy.  And a handful of private investors have made careers of spotting profitable turnaround candidates of companies that have had their share prices beaten down by the market.  Yet few retail investors are afraid to try their hand at what has proven to be a rewarding and lucrative trading practice.  Why the aversion to turnarounds?  

Back in December, we looked at Ann Taylor Stores (ANN), a retail stock in the apparel industry that had just taken a big hit to the downside the month before.  ANN hit a high of $45 in late October 2006 before selling off all the way down to $32 by December on a bearish report from an investment analyst regarding store sales.    

By the time ANN had hit $34 following its steep 1-month sell-off, most advisors and investors had become bearish on ANN and were told to avoid the stock like the plague.  Yet a series of technical and fundamental factors led the turnaround trader to the opposite conclusion.  

In the Dec. 15, 2006, issue of the Momentum Strategies Report I wrote:  "Aggressive traders, let's add Ann Taylor Stores (ANN, $34.02) to our turnaround portfolio.  It's decline from the late October peak at $45 down to its recent low slightly below $34 was overdone and it should be able to find support between here and the benchmark $32 area, a longer-term support.  There are several positive technical divergences showing up in the chart when compared to the falling price, indicating a turnaround is near, and the earnings-per-share trend is still up despite the steep nature of the decline.  Investor advisory sentiment is becoming decidedly bearish on ANN, which should also help it establish a bottom.  Short interest is nearly 10% on shares outstanding.  ANN looks to have turnaround potential in 2007 so let's look to buy a little ANN, giving it leeway down to $31.28 (intraday) before stopping out ANN from our turnaround portfolio."   

Another feature about ANN that suggested a turnaround was near was the fact that its sector index, the Dow Jones U.S. Apparel Retailers Index, was still in an uptrend.  This lent positive sector support to the turnaround scenario for ANN, at least in the intermediate term.  

Since then ANN managed to bottom above $32 and has rallied up to nearly the $40 level, providing a nice little profit for the patient intermediate-term oriented turnaround trader.  

More recently, following the steep market sell-off of Feb. 27, a number of stocks across many different sectors gave short-to-intermediate-term turnaround signals.  These were predicted by the turnaround trading techniques described in my latest book and discussed in the Momentum Strategies Report newsletter.  A leading example would be the NASDAQ 100 Index (NDX).  After the panic selling of Feb. 27, the NASDAQ stocks took it on the chin and were beaten down to levels not seen since November 2006.  The NDX fell from its February 22 high of 1846 to a low of 1711 on March 5.  

By the time the low was in during the early days of March, panic was still rife throughout the market and many investment advisories were predicting further selling and lower prices still.  Investor sentiment as measured by the AAII showed a majority of investors to be bearish.  Yet the leading indicators told us to expect a turnaround.  "Buy now!" was the message of the turnaround technique.  True to form, the market ended up reversing and recovering most of its losses following the Feb. 27 panic selling.   

In the March 14 issue of Momentum Strategies Report I wrote:  "Underlying support is still deemed to be strong based on my wave form and momentum analysis.  Adding to this underlying strength is the super-bearish investor sentiment that's prevalent right now in the form of record put/call ratio readings (on a 15-day moving average basis), a record 10-day ARMS reading, record up-to-down volume on the NYSE, and exceptionally high VIX readings.  On Tuesday, Mar. 13, the up-to-down volume ratio was 1:16, which has historically indicated a virtually sold-out market."   

To these comments were added, "Whenever you're looking for a market bottom one of the first things you must examine is price-to-volume relationships.  This is when volume is worth its weight in gold.  Trading volumes have been drying up on the latest decline and Tuesday's (Mar. 13) big decline occurred on lighter volume than the sell-off of Feb. 27 in many stocks and sectors.  

"One example that selling pressure is diminishing is found in the action of the QQQQ on Tuesday.  The selling volume in the Cubes on Tuesday (Mar. 13) was lighter than the volume on the big decline from Feb. 27.  Notice the volume pattern in relation to price in the chart below.  Note also the developing positive divergence in the QQQQ's daily volume accumulation indicator.  

"In fact, positive volume divergences have been showing up across the board in many NYSE and NASDAQ stocks and sectors.  Even NYSE and NASDAQ total trading volume has shown a pronounced positive divergence (i.e., higher low) compared to the lower low in many stock market indices.  Notice the NASDAQ volume chart shown below for an example of what I'm referring to.  Such divergences normally precede technical rallies and/or confirmed market bottoms.  Typically, the more pronounced the divergence between price and volume, the stronger the recovery rallies tend to be."  

So how did the QQQQ end up trading immediately after the turnaround signal in the volume indicator was flashed?  Judge for your self in the chart below.  

For more ideas on how to spot potentially profitable turnarounds, you might want to check out the latest book I wrote entitled, "Turnaround Trading & Investing:  Tactics & Techniques for Spotting Winning Turnaround Stocks."  The book comes highly recommend from a number of readers who have reported that the book has already paid for itself many times over by using the methods described within it.  Check it out for yourself!  

Better yet, subscribe to the Momentum Strategies Report and see the turnaround techniques discussed in the book used first hand to good effect (and of course, momentum stocks are covered as well).  In fact, when you sign up for a 1-year subscription to Momentum Strategies Report, you'll receive a signed copy of the book "Turnaround Trading & Investing" as my gift to you.  

--Clif Droke
clif@clifdroke.com