Health care stocks: What the market technicals show

Why are UnitedHealth (UNH), Merck & Company (MRK), Johnson & Johnson (JNJ), and Amgen (AMGN), this strategist's top health care stock picks? Freedom Capital Markets Chief Global Strategist Jay Woods joins Yahoo Finance Live to discuss and break down the market technicals of health care stocks.

Woods says he focuses on those four health care stocks, "because they're in Dow Jones Industrial Average. If you're looking for reasons why the Dow can rally, I give you health care."

The Health Care Select Sector (XLV) "continues to make higher lows, as it goes along," Woods notes. "If you're a little skittish on the overall market, health care is a safety sector," Woods says.

Video Transcript

- I know you have some picks in health care. Surprisingly, Pfizer not making your cut, though, Jay. So walk us through your base case. You've got UnitedHealth, Merck, J&J, and Amgen, but not Pfizer.

JAY WOODS: Well, I definitely don't have Pfizer. Pfizer has been a dog in the sector. And I focused on those four stocks. Why? Because they're in a Dow Jones Industrial Average. If you're looking for reasons why the Dow can rally, I'll give you health care. The health care sector continues to make high or lows as it goes along.

- There's health care.

JAY WOODS: All right, so what do we see here? We see nice continued high or lows. Every time it sells off, it continues to get a little higher and it's consolidating in here.

- Jay, I want to stop you for a second. Here's a 10-year chart, and I'm going to put some candlesticks back on. This is like-- I would call this a rare diamond formation. This is just consolidation in terms of a long-term secular trend, it looks like.

JAY WOODS: Well, the diamond formation could be a negative. This is a debate in the technical analysis community, because sometimes this is a key reversal where you see come down. I, however, yes, I do see the diamond, but the way the underlying stocks, the stocks within the index, the UNHs of the world, which is the biggest component of the Dow because the Dow--

- Look at UnitedHealth, very similar chart to XLV. This is 10 years, but I'm going to dial this down to a year to date and we can switch that as well.

JAY WOODS: Yeah, UnitedHealthcare has been consolidating. It tested the 450 area here twice. And if you go back further in time, it's tested it several times. So we have a nice double bottom. It rallied above it. It's now above its 200 day moving average, and it can still run another 50 points and still be in this consolidation zone that we've seen. 50 points in UNH is another 300 Dow points. I think that's what we're going to see from it over the near term. And if you're a little skittish on the overall market, health care is a safety-- safety sector. So I think it's going to see some action.

- Two more. We got Merck and Amgen. I don't know if we have time for both, but start with Merck.

JAY WOODS: Let's focus on Merck because Merck is playing out seasonally just like it had last year. We had some consolidating periods where we've seen drop offs. And what has it done? It's rallied year in. The stock is flat year to date. Over the last 12 months, it's up about 25%. But year to date, it's flat.

If people are looking for performance, if they're looking for something strong within the sector, it's not only in the Dow. It's a major impact on the XLV and the stock should rally into year end based on what we've seen before. And the fact that it's still making higher lows, I'm not very good at drawing with my finger, obviously, but it looks like in this consolidation period above 105, I still like Merck, and I think it's still bullish.

- All right, Rochelle, any more?

- Well, I was going to say, for people who are perhaps not familiar with some of the terms like diamond formation, what is the best way for them to sort of view some of the changes that they're seeing here?

- Love it. Trader education.

JAY WOODS: Trader education, risk management obviously number one-- rule number one, number two, number three when trading. When you get into the trade, you want to have levels. If this doesn't work out, like I just said in Merck, 105 something has changed to me. And I will take that loss, I will limit that loss.

The formations are fun to follow, but I look for continuation patterns, and I'm seeing setups that can show continuation to the upside. So the risk reward set up to me in these stocks and in the sector is definitely bullish.

- Jay, we got to go. Really appreciate you. Anybody who wants to learn about trading, also follow Jay Woods on Twitter, your handle.

JAY WOODS: @ JayWoods3.

- There you go. Rochelle.