The McDonald's Rally Is Sputtering

 | Mar 18, 2014 | 1:40 PM EDT
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Has the McDonald's (MCD) rally finally started to fade?

Since 2003, this name has been a darling for the bulls. The company barely suffered a dent during the recession, playing to consumer's wallets with the expansion of the now-famous "Dollar Menu" while pandering to our addiction to high-priced coffees with the launch of McCafe. It even paid lip service in support of healthier lifestyles and overhauled a number of items on its menu.

But all good things must come to an end, and at some point the market darlings will once again start to age. As everyone in Hollywood knows, that's not often a good thing, unless you're Betty White -- and McDonald's is no Betty White.

McDonald's has been attempting to appeal to consumers seeking healthier food choices in recent years, but these efforts have largely fallen flat. No one, it seems, goes to McDonald's for their Happy Meal apple slices. Further, while the McCafe was initially seen as a brilliant move -- one that got in on the burgeoning coffee craze -- the brand has been coming under attack.

The most recent assault on the McCafe came last week in the form of a viral Huffington Post piece, "14 Fast Food and Restaurant Employees Confess the One Item You Should Never Order." What was that one McDonald's item on the list, you ask? "Anything that comes out of the 'McCafe' machine." It appears that poor servicing of McCafe machines and inadequate employee training has left many groggy-eyed consumers once again falling back on Starbucks (SBUX), which could at least turn out a consistently drinkable latte. Now Starbucks has upped its game, as well, pushing beyond pastries to expand its breakfast options.

The bad press for McDonald's doesn't stop there. Last Thursday came word that workers in three states filed "wage theft" lawsuits against the company. While the details for each of the claims vary, minimum wage has been a hot topic lately, and that has helped push the legal action into the public spotlight.

Add to this mix the news that McDonald's is beginning to see signs of a struggle in the U.S. and throughout its Asia/Pacific, Middle East and Africa (APMEA) segment. Global comparable-store sales declined 0.3% in February, although Europe still shows room for growth.

All in all, it appears that McDonald's public-relations team has their work cut out for them.

While the company ponders its next facelift, the competition has followed its successes and failures closely over the past decade, and these businesses have been undergoing transformations of their own.  

Burger King (BKW) in particular has stood out. Over the past several years the rival burger maker has undergone a makeover. The fast-food chain is offering new, thicker, "healthier" fries, a Big King burger to go head to head with McDonald's Big Mac and a widening coffee selection. Certainly Burger King is doing its best to edge in on McDonald's' turf, and so far it's succeeding.

Burger King's investors, meanwhile, are reaping the rewards: Shares have risen around 40% in the past six months. While the move has extended the stock into short-term overbought territory, the bears should be wary. The Burger King bulls have just started to taste the success long experienced by McDonald's shareholders, and the rising momentum of Burger King shares will not easily give way to naysayers.

While the headlines say one thing, the charts also have a thing or two to say about McDonald's' place in the world, and so far the bulls are holding on. On the monthly time frame, the most recent bull run in McDonald's began in 2003. At the beginning of 2012, it hit a road block, marking the end of the third major run the stock had seen since its early-2003 bottom.

It's typical for a stock to find itself struggling at such a point but, for McDonald's, the momentum back then still favored the bulls. As the stock's trend unfolded, each wave of buying was stronger than the last. So, while the trend was exhausted in the traditional sense, according to Elliot Wave Theory, the bulls still had room to continue establishing new highs. Lightly higher highs are very common in these situations, for example, creating bull traps. This was the case in McDonald's back in 1999, as well as in 2008 and 2009.

As a result, when McDonald's shares pulled back off the 2012 highs, it was relatively easy for the bulls to recover those losses by early 2013. In fact, the stock even hit a new all-time high.

In both 1999 and 2008, the slightly higher second highs resulted in sharp corrective moves. In 1999 the result was a multiyear bear trend, while in 2008 it was followed by a longer period of congestion.

But the 2013 pullback was different. Prior to the 1999 and 2008 corrections, the stock climbed into the highs, followed by a slower second move into higher highs. This shift in momentum allowed for a stronger pullback off the second, slightly higher high. This time around, though, the momentum of the 2012 rally was similar to that of last year's climb into a slightly higher monthly high. The result was a slower pullback throughout the remainder of 2013.

If not for the larger monthly trend placement, McDonald's' price development over the past couple of years would have been decidedly bullish. Typically, the slower pace of the second correction off highs will result in a strong upside continuation of the trend.

But, after three major upswings within the trend already, a stock tends to have a more difficult time mounting a strong fourth move that matches or exceeds the third. Bull traps become more common, and even strong bull runs on the shorter time frames will have more difficulty matching previous moves. Still, "more difficulty" is not the same as "impossible." Sharp fourth waves of upside can and do occur in a trend when the momentum builds with each successive wave of buying.

Volume is also notable in McDonald's. Typically, congestion with a strong bullish bias will coincide with a drop in volume within the trading range, particularly as the range advances. Instead of dropping off, however, volume in this stock has remained fairly consistent since its peak in 2012.

When this takes place at the highs of a more advanced trend, it points to greater speculation on the part of both bulls and bears. This increases the risk for new position-takers on either side of the fence, because false breakouts become a lot more common in both directions and strong moves on the shorter time frame may not translate onto another climb. For example, McDonald's may manage an upswing on par with the early-2013 rally, but that move would be relatively unlikely to develop into a rally that's similar to the prior monthly upswing -- i.e., the 2009-to-2012 run, in this case.

On the daily time frame, McDonald's stock is already showing signs that it stands to struggle with this breakout attempt. The stock has experienced two waves of upside over the past six weeks, and the latest move has placed it squarely into price resistance at prior daily highs. But those highs do not square with the highs the weekly channel. So, if McDonald's is to have any chance breaking out to new highs, the stock still has its work cut out for it.

In an ideal scenario, the two-wave bounce off support would take shares to the upper end of the channel or even beyond that. Instead, McDonald's only made it back to the 23.6% Fibonacci retracement level on the weekly time frame, an area that is encroaching on the psychologically significant price level of $100. If McDonald's is to have any hope of breaking those prior weekly highs, it needs to quickly push past the daily ones.

At the current juncture, then, I do not feel that the benefits outweigh the risks in taking a new position in McDonald's, even if this is in anticipation of one more run on the stock's all-time highs. Nevertheless, I'm not yet ready to let go of my own longer-term holding -- and, if you picked up a new position off last month's low as a trade, I would not be too concerned yet. The $90 level currently represents key support for current investors, but if greater weakness does start to set in, the bulls should have more time over the next several weeks to tighten up trailing stops even further.

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