2 Ways to Play the Weakness in Chips

by Tyler Craig | October 1, 2012 9:22 am

After a brief spurt of outperformance heading into August, the semiconductor sector has returned to its lackluster ways. The weakness in the Market Vectors Semiconductor ETF (NYSE:SMH[1]) has begun to weigh on the Nasdaq Composite index contributing to its recent slide.

On top of its poor relative performance, this beleaguered chipmaking group has fallen below its 20-, 50- and 200-day moving averages. If the semis remain mired in weakness, a sustainable advance in the Nasdaq appears doubtful.

Chart watchers interested in tracking the relative performance of a particular stock or sector versus the broader market can use the Comparative Relative Strength (CRS) indicator. As the name implies, this technical indicator reveals whether the stock in question is relatively stronger or weaker than the sector or index you’re comparing it to. It’s plotted as a simple line that rises when the stock is outperforming and falls when the stock is underperforming.

Click to Enlarge
The short-term burst of relative strength in SMH is highlighted in this chart with the rising green arrow. Its subsequent return to weakness is highlighted by the falling red arrow. Let’s look at two potential plays — one bull and one bear.


Traders looking for a bearish play to add to their portfolio might consider selling a November 32-34 bear call spread on SMH for 70 cents or better. In the event the chip sector continues to exhibit weakness, a visit of the summer lows at $30 is a distinct possibility.

Provided SMH remains below $32 through November expiration, the suggested call spread will expire worthless and allow you to pocket the entire 70-cent premium. Consider using a break above $33 as a signal to exit the spread to minimize the loss.


Contrarians willing to bet that SMH remains above its summer lows could sell the November 30 put for 50 cents or better. Given the nature of the strategy, you would have to be comfortable betting the deterioration in semis won’t persist for much longer. To minimize the loss, I would consider buying back the put if SMH breaches the June-July lows around $30.

At the time of this writing Tyler Craig had no positions on SMH.

  1. SMH: http://studio-5.financialcontent.com/investplace/quote?Symbol=SMH

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