The conflict in Syria, combined with fears of Federal Reserve tapering bond purchases, has caused market jitters. On concern over a U.S.-led attack, the S&P 500 gapped below the 50-day moving average this week, creating a steep downtrend. Only a close above 1,670 would reverse this.
For the first time in many months, I am not recommending a new long position in this column. My strategy is to instead short vulnerable stocks that display technical and fundamental weakness until the S&P's downtrend line is broken to the upside.
The failing retailer J.C. Penney (JCP) fits this bill. The department store chain has been struggling since shares peaked at an all-time high near $82 in 2007. With declining sales, a failed attempt to rebrand itself and lackluster quarterly results, the stock is currently trading at just over $12. And shares look like they could fall further.
This week, JCP dropped several percentage points on news the company's largest shareholder, and former board member, Bill Ackman, liquidated his entire $492 million stake in the company -- absorbing an enormous loss.
Ackman's sale comes just weeks after he resigned from the company's board of directors, publically announcing that he's lost confidence in the company.
His lack of faith in JCP is in part a result of the company's tumultuous attempt to rebrand itself. Faced with declining sales and aging customers, the retailer attempted to redefine itself under the leadership of former CEO Ron Johnson -- who lasted just 17 months.
To attract younger, more affluent shoppers, Johnson's rebranding strategy was to create a "mini-mall" with smaller stores within the larger J.C. Penney outlet. The vision was to make the store a cool hangout spot with Wi-Fi, coffee shops, hair salons and dining areas. He also eliminated some of the traditional brands and brought in new, "hipper" clothing lines. However, the younger generation didn't take to the new business model, and neither did the older, loyal customers.
Sales dwindled. In the first year of the store transformation, the company recorded nearly $1 billion in losses and a 25% decline in revenue from the year-earlier period. In the first and second quarters of fiscal 2013, sales from the year-earlier period plummeted 16% and 12%, respectively.
The company is now under new leadership and attempting to stabilize its business model, but even if it is successful, the turnaround will take time.
The technical picture certainly appears bearish.
Peaking near $43 in February 2012, shares formed a major downtrend line and have lost over 70% to date.
In late February 2013, JCP plummeted from a high near $23 to a low near $14 in just two weeks. Over the ensuing month, shares found support around the $14 level, then attempted to claw their way higher. However, resistance, marked by the intersection of the major downtrend line, capped the stock near $20, and it again fell to support near $14.
In late July, $14 support was decisively broken. Shares fell to a multi-year low of $12.34. In falling through support, JCP broke down through a descending triangle, marked by the intersection of support and the downtrend line.
Throughout the month of August, shares traded in a narrow range between $12.34, which was established as new support, and resistance at $14.39. However, on Friday, $12.34 support was breached, and JCP could now tumble much further.
According to my analysis of the chart, the next major support is the 1982 IPO low near $3, presenting traders who short the stock with huge potential returns.
The bearish technical outlook is supported by weak fundamentals.
For the upcoming third quarter, scheduled to be reported Nov. 19, analysts anticipate weak merchandising and promotional strategies will result in a 1.4% revenue drop with sales slumping to $2.89 billion from $2.93 billion in the comparable year-earlier period. For the full fiscal 2013 year, analysts expect a 6.2% revenue decline with sales falling to $12.17 billion from $12.98 billion last year.
The earnings outlook is also weak. Because of sales strategies that resulted in high markdowns and clearance level prices, analysts suspect the third-quarter earnings loss will expand sharply to -$1.66 per share from -$0.93 per share in the year-earlier quarter. With fewer shoppers, analysts estimate full-year fiscal 2013 earnings will fall to -$5.84 from -$3.50 last year.
Given the shaky technical and fundamental picture, I plan to short the retail stock.
Risks to consider: JCP is at major long-term support in the $12 range. It is possible the company holds here and new management executes a turnaround. However, with the company's biggest investor recently selling his entire stake, there's good reason to believe the stock will drop further.
Recommended Trade Setup:
-- Sell JCP short at the market price
-- Set stop-loss at $17.51, just above resistance marked by the intersection of the downtrend line
-- Set initial price target at $3.36 for a potential 73% gain by mid-2014