Mark Twain would likely love this sector today as the reports of its death may have been greatly exaggerated.
Well, maybe at least for now it has.
From my perspective, This may be one of the tallest Walls of Worry that the market has traded its way up, and there's one sector that's just joining the party as it enters what I call a Behavioral Valuation rally.
The sector, Retail. That's right, the retail sector.
We'll get to the details in a minute. First, let's walk through the broader-based market conditions that are lined up to drive the retailers higher.
It all starts with the small-cap Russell 2000 Index represented by the iShares Russell 2000 ETF (IWM).
Over the last two weeks, the Russell 2000 has joined in the otherwise narrow market rally.
For much of the year, the market has ridden on the coattails of those large-cap tech stocks. But now, things are changing. This means that we may be in store for a sector rebalance that will propel the IWM and other market laggards higher.
At this moment, I'm watching the long-term monthly chart of the IWM for the next signal that the retailers and other "dogs" of the market are set to lead the second stage of the market's rally higher.
The IWM is attempting to break back above its 20-month moving average. This trendline marks the line of demarcation between a bull and bear market. A successful move above the 20-month would confirm that the small-cap stocks were entering the bull market.
Why is this important for the retail sector?
Most of the retail stocks are part of the small-cap stock universe. Sure, there are companies like Wal-Mart (WMT), Target (TGT), and Home Depot (HD) that are large-cap stocks.
But under 25% of the retail sector is considered a large cap.
This means that a money migration into the small-cap universe would favor the retailers as the IWM moves into its own bull market.
It's no coincidence that the retail sector has seen its own rally.
We just finished the retail sector's earnings season, and it was bad.
Several companies missed their earnings targets and lowered expectations for future earnings. That said, the expectations for retail earnings were relatively low.
This means that the market was already pricing poor earnings into retail stock prices.
Given that, it is easier for these "low expectations" stocks to rally, even when they have a bad report. Because the market was expecting bad or even worse in some cases. In a way, this has turned the retail sector into a short-term value in the trader's eyes.
Over the last month, the SPDR S&P Retail ETF (XRT) has rallied 5%. That rally has positioned the shares to break above a few critical levels.
First, the ETF's 200-day moving average.
Second, April highs at $64.
In addition, the XRT's 50-day moving average is shifting into a bullish pattern. This happens when a stock's 50-day moving average begins to trend higher.
It would be the first time that these three conditions were met since January when the XRT rallied from $64 to $74. A move of 15%.
Now let's drill down on this sector to identify the strong stocks you should target.
Ollie's Bargain Outlet Holdings (OLLI)
Ollie's is a discount outlet retailer. They sell items that for the most part couldn't be sold by other retailers.
Last quarter's earnings results beat The Street's expectations, which makes the company a standout in the sector. The results also showed a healthy increase in revenue, something that many retailers couldn't achieve.
Technically, the stock is set to move higher.
The 50-day moving average is in a bullish trend higher. This means the stock has a 2/3 chance the price will move higher each day.
Additionally, the stock is in the process of moving back above that bullish 50-day trendline. This means we are likely to see increased buying.
The last time we saw this combination in the chart was in March 2023. The stock traded above its bullish 50-day and sparked a rally. That rally swept the stock from $58 to $68, a 17% move in less than two months.
As a bonus, short sellers have been adding to their positions of late. The current short interest accounts for 10% of the stock's float. This indicates that an improvement in the technical - which we are seeing - will start to squeeze those short sellers.
Put all of that together and my target for Ollie's is $75 over the next 4-6 weeks.
How do I trade this bullish retailer?
Obviously, I can buy the stock at $62.00 and target selling at $75 for a 20% gain.
If I want to leverage that move - which I often do - I consider the October 20, 2023, OLLI $62.50 call. The option is trading around $6.40. That option has a theoretical value of $14.50 If the stock hits my target within the next six weeks.
Do the math and that option has the potential to return about 125% if things go as I've laid them out here.
Other companies that are on my bullish retail list include Best Buy Co Inc (BBY) and Ross Stores Inc (ROST).
Companies that I am avoiding in the sector include Burlington Stores Inc (BURL), American Eagle Outfitters Inc (AEO), and BJ's Wholesale Club (BJ)
The post My Top Three Retail Stocks to go Long on appeared first on Penny Hawk.
About the Author
Chris Johnson (“CJ”), a seasoned equity and options analyst with nearly 30 years of experience, is celebrated for his quantitative expertise in quantifying investors’ sentiment to navigate Wall Street with a deeply rooted technical and contrarian trading style.