Sell These 5 Toxic Stocks Before It's Too Late

BALTIMORE (Stockpickr) -- Stocks climbed another half-point higher yesterday, clawing back performance after the S&P 500 shed around half of its year-to-date gains at the start of August. But that doesn't mean investors are out of the woods just yet. If you own one of these "toxic" stocks, your portfolio could still be in store for a world of hurt.

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All told, it's been a pretty perfunctory year for stocks; the S&P 500 is up 5.8% since the calendar flipped to January, putting the big index on track for a 9.5% year. But that's only part of the story. As I write, a full third of the S&P is actually down on the year. And of those names, close to a third are down by double-digit percentages.

Clearly, betting on the wrong names in 2014 could leave you with drastically different performance than the S&P suggests. And that's exactly why you need to avoid the toxic stocks this summer.

So today, we're taking a technical look at five toxic stocks you should sell.

Just to be clear, the companies I'm talking about today aren't exactly junk. By that, I mean they're not next up in line at bankruptcy court. But that's frankly irrelevant; from a technical analysis standpoint, sellers are shoving around these toxic stocks right now. For that reason, fundamental investors need to decide how long they're willing to take the pain if they want to hold onto these firms in the weeks and months ahead. And for investors looking to buy one of these positions, it makes sense to wait for more favorable technical conditions (and a lower share price) before piling in.

For the unfamiliar, technical analysis is a way for investors to quantify qualitative factors, such as investor psychology, based on a stock's price action and trends. Once the domain of cloistered trading teams on Wall Street, technicals can help top traders make consistently profitable trades and can aid fundamental investors in better planning their stock execution.

Read More: Triple Your Gains With These 5 Cash-Rich Companies

So, without further ado, let's take a look at five toxic stocks you should be unloading.

Gerdau

 

Up first is Brazilian steel stock Gerdau (GGB) a name that's been one of the NYSE's worst large-cap performers this year. Since the start of January, Gerdau is down more than 29%. Truth be told, GGB has been looking bearish for a while now. If you'd sold it the last time it looked toxic, you'd have spared yourself close to 11% losses.

But shares look primed for another leg lower from here -- and Gerdau is worth an updated look today.

GGB spent most of 2014 forming a bearish descending triangle pattern. The descending triangle is a price pattern that's formed by horizontal support below shares (in this case at $5.75) and downtrending resistance to the topside. As GGB bounced in between those two technically important levels, it was getting squeezed closer and closer to a breakdown below that $5.75 price floor. That sell trigger happened on Tuesday.

That means that if you own GGB, it's time to unload this stock.

That bearish bet is being confirmed by relative strength in GGB. This stock's relative strength line has been downtrend all year long, an indication that Gerdau is underperforming the rest of the market. That's a big red flag to heed in shares this week.

Read More: 3 Stocks Spiking on Big Volume

The Medicines Co.

 

We're seeing the exact same price setup in shares of small-cap pharmaceutical name The Medicines Co. (MDCO) this week. Just like Gerdau, MDCO has spent the last several months trading in a descending triangle setup; the key difference here is that this trade hasn't triggered yet. The sell signal comes in on a break below support down at $24.

Why all of the significance at $24? It's not magic. Whenever you're looking at any technical price pattern, it's critical to keep buyers and sellers in mind. Patterns like the descending triangle are a good way to quickly describe what's going on in a stock, but they're not the reason it's tradable. Instead, it all comes down to supply and demand for shares.

That $24 level in MDCO is the spot where there's previously been an excess of demand for shares; in other words, it's a price where buyers have been more eager to step in and buy shares at a lower price than sellers were to sell. That's what makes a breakdown below support so significant -- the move means that sellers are finally strong enough to absorb all of the excess demand at the at price level. While MDCO could still have some upside in the near-term and stay within the triangle, it's a name best avoided this summer.

Read More: Trade These 5 Consumer Stocks for Gains in August

Regency Energy Partners

 

Regency Energy Partners (RGP), on the other hand, hasn't been bleeding off all year long. In fact, this $11 billion natural gas play is actually up close to 20% year-to-date, stomping the broad market by comparison. But bulls should think about taking gains here. After a long run higher, RGP is starting to look "toppy."

Regency is in the early stages of forming a double top pattern. The double top looks just like it sounds: it's a bearish reversal trade that's formed by a pair of swing highs that top out at approximately the same price level. The sell signal comes on a violation of the support level that separates the tops, that $30 price floor in the case of RGP.

That doesn't mean that lower levels are a foregone conclusion just yet. Since Regency's topping pattern hasn't triggered yet, it has a way out if buyers can muster the strength to propel shares past $32. If you don't want to take the downside chance past $30, the best way to manage the risks in RGP is with a tactical stop loss. I'd recommend putting a stop on the other side of the 5 Rocket Stocks to Buy for Gains This Week

Juniper Networks

 

2014 has been a rough year for shareholders in Juniper Networks (JNPR). Since shares peaked in January, this stock has dropped to the tune of 17%. The bad news is that this stock isn't showing any signs of ending that selloff. The good news is that you don't have to be an expert technical trader to figure out what's going on here.

The price action in Juniper Networks is about as simple as it gets. JNPR has been bouncing its way lower in a textbook downtrending channel since last September, swatted lower on each successive test of trend line resistance. That pair of parallel trend lines on Juniper's chart defined the high-probability range for shares of JNPR to trade within. And since those lines are pointing down and to the right, it makes sense to stay out of this stock in August. It's really just as simple as that.

I'd recommend staying away from the long-side of JNPR until shares can press up through their 50-day moving average, a level that's been a good proxy for trend line resistance on the way down. Until that happens, the downtrend is intact.

Read More: 5 Hated Earnings Stocks You Should Love

Agrium

 

$13 billion agricultural chemical maker Agrium (AGU) is another name that's working its way lower in a textbook downtrend this month. Shares bounced off resistance for a fourth time at the beginning of the month, giving us another high-probability sell signal for this toxic stock.

Waiting for that bounce lower before clicking "sell" is a critical part of risk management, for two big reasons: it's the spot where prices are the highest within the channel, and alternatively it's the spot where you'll get the first indication that the downtrend is ending. Remember, all trend lines do eventually break, but by actually waiting for the bounce to happen first, you're confirming that sellers are still in control before you unload shares of AGU.

We're getting confirmation right now from momentum, measured by 14-day RSI. Our momentum gauge has been making lower highs over the course of the channel, an indication that buying pressure is still waning. Consider that a big red flag for AGU this summer.

To see this week's trades in action, check out the Toxic Stocks portfolio on Stockpickr.

-- Written by Jonas Elmerraji in Baltimore.

 

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>>3 Huge Stocks to Trade (or Not) >>4 Big-Volume Stocks Triggering Breakout Trades >>4 Big Stocks on Traders' Radars

 

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At the time of publication, author had no positions in stocks mentioned.

Jonas Elmerraji, CMT, is a senior market analyst at Agora Financial in Baltimore and a contributor to TheStreet. Before that, he managed a portfolio of stocks for an investment advisory returned 15% in 2008. He has been featured in Forbes , Investor's Business Daily, and on CNBC.com. Jonas holds a degree in financial economics from UMBC and the Chartered Market Technician designation.

Follow Jonas on Twitter @JonasElmerraji

 

Axel Merk: Time to Take ‘Chips Off the Table’

Inflated asset prices, investor complacency and brewing crisis that could trip up the current happy equilibrium are the backdrop for Axel Merk’s warning that it is time for investors to start “taking chips off the table.”

But the key difficulty for the Merk Investments founder and portfolio manager in his latest investment analysis is where to hide in an environment in which “instability may be the new normal.”

To answer that question, Merk first locates tracks the market’s current state as one of complacency — which is the third of three states in a market crisis.

Typically, he says, equity markets sell off in a crisis; as that crisis evolves, markets tend to differentiate: For example, when Cyprus blew up, Spanish bonds were undisturbed. In the third and current stage of a crisis, risk seems manageable.

“When a Portuguese company didn’t pay its loans on time, the markets barely blinked,” Merk writes.

It is at this stage that pundits typically advise not to sell but rather to buy the dips.

And this approach is vindicated by central bank easy-money policies that have the effect of compressing risk premiums.

European Central Bank chief “Mario Draghi has promised to do ‘whatever it takes.’ So why shouldn’t investors chase yields in the weaker Eurozone countries?” Merk asks.

The currency portfolio manager similarly critiques Fed chair Janet Yellen, whom he assesses as having “all but promised … to be late in raising rates.” What’s more, he thinks any nominal rate increases will be meaningless, because of inflation, such that he expects real rates to remain the same.

The trouble lurking in this low rate, high complacency environment is the danger that risk premia will suddenly and unexpectedly rise.

And while the source of this shift could be as subtle as a change of perception (“the glass is suddenly half empty”) or a result of the Fed seeking to engineer an exit, Merk devotes much of his analysis to growing social and geopolitical disorder.

In the social sphere, central bank easy-money policies are destroying society’s social fabric because asset holders are benefiting disproportionately, thus enlarging the wealth gap.

“I would argue policies of the Fed have a far greater impact on wealth distribution than the policies of Republicans or Democrats,” writes Merk. “Those that know how to deal with easy money, such as hedge funds, can do great in this environment; however, those that don’t know how to deal with debt easily fall through the cracks, unable to recover.”

The result is a deep erosion in purchasing power that fuels populist movements such as the Tea Party and Occupy Wall Street; Japanese Prime Minister Shinzo Abe’s populist policies; uprisings in the Middle East; and the ascendency of populist parties in Europe of late.

In this light, Ukraine’s essential problem is its inability to balance its books, thus turning initially to Russia and now to the European Union for subsidies.

Noting that World War II was preceded by the Great Depression, Merk says that “the aftermath of a credit bust is a fertile environment for the sort of dynamics that can lead to armed conflict. Russia has an interest in an unstable Ukraine; Japan might ramp up military spending to boost domestic growth, to name but two sources of instability.”

While not predicting World War III, Merk continues that “the U.S., a superpower no longer able to finance all of its commitments, is not exactly a source of stability, either: the biggest threat to U.S. national security may not be China or Russia, it’s the national debt.”

Merk is pessimistic about the possibility of dealing with the debt through entitlement reform in an environment of rising populism, for which reason he is convinced that real rates will have to remain low lest U.S. debt servicing costs rise by $1 trillion or more a year with a rise in rates.

So with asset prices at or near record levels and volatility at record lows, combined with rising world and domestic instability, investors should try to steer their portfolios away from risk.

Merk thinks bonds will be among the worst performers in the coming decade, and besides, are too risky to short because of the requirement to pay interest; he does not see the dollar as a safe haven with real interest rates in negative territory; and buying equities now means coming “late to the party.”

Investing in gold makes sense, he says, “as low to negative real interest rates may make the shiny metal that pays no interest (but cannot be easily ‘printed’) a formidable asset.”

Investors might also “diversify to baskets of currerncies” and “possibly be tactical in an effort to stay a step ahead as currency wars may be raging.” 

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