Buy Biotech’s Burst Bubble… Just Not Quite Yet

by Sam Collins | March 26, 2014 2:14 am

A rebound in the battered biotechnology sector Tuesday helped the Nasdaq recover some of its recent losses. But it was IBM (IBM[1]), with its 3.6% gain, that helped the Dow Jones Industrial Average to a 91-point gain. High volatility characterized trading on both the Nasdaq and Russell 2000, as technology and biotech stocks swung from their early morning peaks to afternoon lows.

The iShares Nasdaq Biotechnology (IBB[2]) had a 4% range between its intraday high and low, finally closing with a small gain after falling as much as 11% over the prior four sessions. But overall, the gains were broad-based with nine out of the 10 S&P 500 sectors closing the day with a gain. After being the bright star of recent sessions, the financial sector only rose 0.1%, but this indicates that healthy group rotation is in play.

There were several financial and economic reports of interest to investors. The Federal Housing Finance Agency’s January house price index increased 0.5%. The Case-Shiller 20-City Home Price Index rose 13.2%, a slight disappointment, and new home sales declined 3.3% in February to a seasonally adjusted annual rate of 440,000, which was more than expected. The Conference Board’s Consumer Confidence Index increased to 82.3 in February, up from 78.3 last month, to the highest level since January 2008.

At Tuesday’s close, the Dow Jones Industrial Average rose 91 points to 16,368, the S&P 500 gained 8 points at 1,866, and the Nasdaq was up 8 points at 4,234. The NYSE’s primary market traded 645 million shares with total volume of 3.2 billion shares. The Nasdaq crossed 2.2 billion shares. Advancers led decliners on the Big Board, while on the Nasdaq, the figures were almost even.

VIX Chart
Click to Enlarge

The CBOE Volatility Index (VIX) is a contrarian indicator, and complacency is usually indicative of a pending sell-off.

As noted in the March 12 Daily Market Outlook[3], “It is quiet again, but at the higher level of 14 to 15, it may be telling us that rather than a correction, we are most likely going to have a pause or perhaps a slight pullback to the S&P 500’s 50-day moving average, now at 1,828, before the advance resumes.”

We did get a pullback to 1,840 on March 14, but so far that is the extent of the “adjustment” in prices.

IBB Chart
Click to Enlarge

Chart Key[4]

There has been much talk about the market being in an overbought bubble. An obvious bubble occurred in the biotech sector, which is shown in the chart. Now that the bubble has burst, the question is, “When do we buy back?” Since many of the stocks in the index have very high growth rates, we want to own them, but at our price.

Conclusion: Biotechs are one of the few groups to break from a genuine “bubble,” which means that they ran above their normal bull channel by a significant amount and then had a sharp sell-off. Since “bubble” is a descriptive term that has no formal definition, we will stick with this explanation.

IBB has thus far retreated 13% from its Feb. 24 high. It therefore meets the definition of a “correction” and could form a bottom at the $240 level. However, the upward momentum has been so seriously damaged that I believe IBB has more selling to come. Also, Congress has decided to examine the pricing of biotech drugs, so we should expect any rallies will be met with unfavorable news from Washington.

We should delay any further purchases unless several strong days of selling drive the ETF to its 200-day moving average. I would find it difficult to resist buying the ETF and many of its stocks at that bargain-basement level.

Today’s Trading Landscape

To see a list of the companies reporting earnings today, click here[5].

For a list of this week’s economic reports due out, click here[6].

  1. IBM:
  2. IBB:
  3. March 12 Daily Market Outlook:
  4. [Image]:
  5. click here:
  6. click here:

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