A Tough Upside Battle Ahead for Yelp

 | Apr 10, 2014 | 9:30 AM EDT  | Comments
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There's no denying it: Shares of Yelp (YELP), the popular online "urban guide" and review site, have been getting pummeled over the past month. After striking a high of $101.75 on March 5, by the beginning of this week the stock had fallen a shocking 35%, right into the psychologically strong $100 resistance zone. While investors and analysts alike have been quick to point out that there is no fundamental reason behind the move, the company has faced some controversy lately, and the technicals fully supported a weekly correction.

As the $100 level struck, Yelp was testing the upper limits of a weekly trading channel that began last summer. This level had previously stalled the stock's ascent in the final quarter of 2013 and, as it hit for the second time, the daily charts revealed the manifestation of a strong technical reversal strategy with a bull trap pattern that I call a 2T. This helped propel the bearish move that followed, leading to a great deal of interest at current levels.

Source: Tradestation

Think of a 2T as two highs, with the second high coming in slightly higher than the first. As the second high formed in Yelp, the channel developed with significantly slower momentum than that of the move into the first high, as shown on the chart below. This slower channel indicated that the bulls were struggling to make and maintain new highs, allowing for a sharper selloff once the channel broke. In this case, the March 5 high even formed a shooting star on the daily charts, which is a popular reversal candlestick for candlestick analysts. 

Source: Tradestation

Now, however, many are arguing that the selloff was too extreme and that Yelp is currently undervalued. A number of analysts have come out over the past several days issuing upgrades, including CRT Capital on Wednesday morning. The firm changed its rating on Yelp from Fair Value to Buy, while our own Jim Cramer today called Yelp "the modern-day Yellow Pages on your mobile" and advised not backing away from this stock. But what do the charts say?

Both the daily and weekly charts do support buying at these levels, but they also suggest that a much tougher road lays ahead than what we saw in the past.

Let's take a look at the weekly time frame first. It's clear with only a quick glance that Yelp has strong price support at this zone. It's not only the middle of the congestion from last fall, but also a strong Fibonacci level. The share price, at $69.12, is the 38.2% Fibonacci retracement level of the bull ran than began in late 2013. When a security has been in a strong bull trend, and then corrects into this support level, it almost always reacts in some manner. At the very least, this level tends to slow the momentum of that correction, even though the stock may then pull into the 50% retracement level before it reacts more strongly off the support.

The trend development of this corrective move also tells us that a reaction off current levels is likely. It is easy to see three distinct waves of selling on the daily time frame since this correction began. Each wave was similar to the last, and each pause between those waves was also comparable to the last. All this indicates true trend exhaustion on this time frame at current levels. The pace of the third selloff increased slightly, however, and that the overall momentum of the correction as a whole has been stronger than an average move in this security, as seen back in 2012. These factors suggest that the overall reaction off this support zone is unlikely to be as strong as was the move into it.

Following this type of downtrend, there are two ways that a security will typically react off support.

The first is by shifting the momentum of the selling at support and then pulling more gradually into the next support level, which allows for a stronger bounce off the support to follow. In this case, that would be the 50% Fibonacci retracement and price support just under $60.

Alternately, when the support at the third low of the correction's trend holds without slightly lower lows, we may see an initial burst of upside -- but this is usually followed by a longer period of congestion, such as the congestion in January, before the trend attempts a second wave of upside. Overall, the result is an uptrend channel off the support that's slower than the downtrend channel off the highs.

What is the potential for these strategies? Well, the weekly time frame now has an inverted "V" pattern off highs, and a stronger selloff is in play vs. that of the rally that preceded it. As a result, it will be extremely difficult for the stock to break the zone of this year's highs to break even if they are retested. Instead, even a relatively strong move off this support level will most likely be followed by a longer trading range, or at least a slower upside trading channel on the weekly to monthly time frames.

Nevertheless, while the stock may face stronger upside battle in the weeks ahead than the bears faced on the way down, Yelp is a company in transition and will remain in play throughout 2014 as its popularity continues to spread. Yelp launched in Japan just this week, and is now extending its presence throughout Asia. Its format has elicited controversy due to its publication of negative reviews, as well as accusations that it "plays favorites" to its sponsors, but this has merely drawn more attention to the company.

Now the company is attempting to reinvent itself by dabbling as a go-between for customers and merchants. It is allowing customers to book appointments, reservations and deliveries, and even to pay for orders through its recent acquisitions and partnerships. The company calls this "closing the loop" -- and, if it succeeds, investors who are in it for the long haul will be thrilled to have picked up the stock at current levels. 

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