What worries me most about the list of oversold TSX stocks this week is not the size of the list, it's the large number of companies not expected to make any profits.
There are 26 stocks in the S&P/TSX Composite that are oversold according to Relative Strength Index. Of those 26, half of them have trailing twelve months PE ratios of "N/A" according to Bloomberg, which means there were no profits in the past year to calculate ratios with. Ten of these stocks also have N/As for forward PE ratios, which means analysts expect them to keep losing money.
I chose Encana for the focus chart this week, and it's only partly out of morbid curiosity. Previously, I have avoided discussing technical analysis on resource stocks because the commodity prices which determine revenues and profits are so far beyond management's control. In looking at Encana, I'm attempting to see how much technical damage has been done to the stock versus previous bouts of volatility in case the commodity price backdrop improves.
The reason I've been avoiding energy stocks is clear in the chart. The downward trend in the past 12 months has been so strong that oversold RSI readings have been followed by very small rallies before rolling over and heading south again. For Encana, this happened on July 7, 2014, December 12, 2014 and March 9 of this year.
There is a new line on the focus chart this week – the 200-day moving average. Technical traders use the 200-day as a measurement of the long-term price trend for the stock. Traders like J.C. Parets of All Star Charts will not consider buying stocks trading below the 200-day moving average no matter how oversold they become by indicators like RSI or MACD.
Applied to Encana, Mr. Parets's rule of thumb would have saved investors a lot of inconvenience. Encana fell below the 200-day at the end of September 2014 and remains well below the current moving average. Mr. Parets would have ignored all oversold buy signals since September, and, to the extent there's been no tradeable rallies since then, he would have been right.
The use of the 200-day moving average implies that traders and investors should avoid the stock until the price pokes its head above the trendline.
The S&P/TSX Composite finished higher by 0.16 per cent for the five trading days ending with Thursday's close. The flattish performance of the benchmark is clearly misleading – there's a lot going on under the surface.
Follow Scott Barlow on Twitter @SBarlow_ROB.
