Centrica (CNA) is not a stock I ever thought I would consider trading, given that 1) it’s boring, and 2) has a £2bn-plus market cap, and is therefore not so volatile. As we saw in my article last week ‘Synairgen shows how to play soaring prices’, volatility is something that I and other traders should constantly be hunting for, because without volatility it is difficult to generate alpha.
But last Friday, Centrica did come onto my radar. The company announced a £2.85bn disposal, selling its North American energy supply business Direct Energy to US energy company NRG Energy.
Centrica’s shares have been battered in recent years. In September 2013, the stock put in its last all-time high, peaking above 400p for a few days, before its precipitous fall. With the stock languishing briefly in the 20s this year, that is a 90 per cent fall in shareholder value. Investors have no doubt been hoping for a turnaround for many a year, but my colleagues here at Investors Chronicle moved from a hold to a sell back in November 2017. At the time, the price closed around 140p – the current price today is still a hefty discount despite having already fallen well off its highs. And while many analysts would like to blame the fall on a combination of weak oil and gas prices, as well as problems in its consumer-facing energy business, this is also a company that has been managed badly. Difficult markets or not, the buck stops with the C-suite executives.
This is a good example of why we should not wait around to sell. Many investors and even traders fall into the trap of thinking that a stock has already fallen by so much, that ‘they may as well hold onto it’. This is nothing but a fallacy. A stock that has halved can halve again, and it can halve again from there. If you buy a stock that has fallen 90 per cent from its high, but it halves, then you’ve lost 50 per cent of your position.
This is why risk management – and avoiding duds like Centrica – is key to profitable trading in the stock market.
Looking at Chart 1, I have drawn several arrows that highlight where the stock tested and failed to break the 200-day exponential moving average (EMA, purple line). This was a warning sign for investors, because the 200-day EMA is an important indicator. Many technical analysts look at this to determine if a stock is in a bullish or a bearish trend. The fact that the stock could not rally above this zone left it in no doubt as to what trend the stock was in.
At the turn of 2016, after nearly three years of misery, Centrica shareholders could start to hope. The stock looked as though it could be making a stage 1 base, but as we can see from the red line I’ve drawn on the chart the stock didn’t go on to make new highs. It broke through the 200-day EMA zone, only to fall back through it again. Below this line is another arrow, where we can see all of the moving averages pointing downwards again – another clue that this was a stock for suckers, and that another fall was likely imminent. As we can see, despite the stock already halving, Centrica’s share price was out of gas and had a long way to fall.
But now, it looks like Centrica could finally be powering itself up again. It agreed to sell Direct Energy for £2.85bn – a greater price than analysts had expected – which will immediately be deployed to shore up the company’s balance sheet. This will cut a vast swathe into Centrica’s debt, and also make a material contribution to the company’s defined benefit pension scheme.
There has also been a big restructuring and cost cutting initiative, with the goal of making the company leaner. New chief executive Chris O’Shea has made some big moves, but whether they are likely to pay off is a difficult assessment for the longer-term investor. The trader, of course, only cares if the stock goes up. Whether the means of transport is through fundamental strength or overvalued hype is not relevant.
Looking at Chart 2, we can see that the stock did not navigate the Covid-19 storm well at all. However, it is now nicely up from lows of around 30p. I’ve drawn a line on the chart at 45p in order to show where I feel is a significant price zone. In March, and again in June, the price tested and traded around this level and so whenever a price sticks to an area I mark it down.
Friday’s update to the market saw the stock gap up, rally sharply, only to come back down and close red. This is what we call a shooting star – I’ve marked this with an arrow (thanks to reader Paul for this suggestion of annotation). The candle after this was a doji – a very short body but with large wicks both above and below the body of the candle. This shows indecisiveness in the market; neither the bulls nor the bears are strong enough to take control of the trend. And, after that, we can see a gap up and a hammer candle being printed.
What does this mean? Well, one thing we can learn is that there is sufficient support and demand for the stock at these levels – at least at this moment. If the gap does not fill, then we can consider this a breakaway gap, and the potential beginning of a new trend. I’d want to see the stock take out 56p (the recent high) before taking a long position. But be careful – the 200-day EMA is still resistance – and only once the price breaks through this level can we start to seriously consider Centrica as a turnaround play.
- Michael has released his UK Online Stock Trading Course sharing his knowledge and how he trades the stock market. Investors Chronicle readers can take advantage of an introductory offer by visiting www.shiftingshares.com/online-stock-trading-course
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