The majority of traders are laser-focused on the technology sector, so I decided to take a stroll around the Street to see what else was perking up. I didn’t have to travel far before I found the SPDR S&P Biotech (ETF) (NYSEARCA:XBI), which beckoned to my wandering eyes.
With a penchant for quality chart patterns and clean setups, the reason for XBI’s selection shouldn’t be surprising — it’s on the verge of breaking a huge multimonth base. That and its options are dirt cheap. It smells like a long call breakout play to me.
Let’s break it down.
Neophyte traders may not remember this, but once upon a time, biotech stocks were all the rage. Indeed, XBI and its close cousin, iShares NASDAQ Biotechnology Index (ETF) (NASDAQ:IBB), led the charge from the depths of 2009 through July 2015. XBI soared from a humble $14.35 to a stratospheric $91.11 — a towering gain of 535% in a little over six years.
Then, as it usually does, gravity set in and spoiled the fun. The biotech ETF suffered a 50% haircut and has been clawing its way back ever since.
It has gained back roughly 60% of its losses, in fact. This time, however, XBI’s trajectory isn’t near as vertical. And that, I suspect, is why its climb hasn’t been accompanied by near as much fanfare as in years past. There are simply more exciting sectors vying for eyeballs these days.
Nonetheless, the price action in XBI is becoming attractive here.
XBI ETF Charts
The accompanying weekly chart shows the fund’s parabolic ascent, 50% plunge and subsequent recovery.
In recent months, XBI has found heavy resistance in the $73 zone. This level is significant for a couple of reasons:
- First, it halted a prior advance in late-2015 making it a logical target for profit takers who may have scooped up shares at lower prices.
- Second, this level represents a 61.8% retracement of XBI’s entire decline. This Fibonacci retracement level is one of the most common areas for support and resistance to form.
- Finally, the 20-, 50- and 200-week moving averages are all pointing higher, providing little doubt that the trend supports buying bullish setups.
For a more detailed view of its recent back and forth, check out the daily chart.
Since mid-February, XBI has been locked in a trading range between $67 and $73. Overhead resistance has been tested four times with little success. But if the uptrend persists, a breakout is inevitable.
And with the broad markets notching new record highs Tuesday — not to mention this biotech ETF ending with a bullish candle just beneath resistance — a pop seems imminent.
XBI Options Trade
Equity lovers can stick with a straight stock play. Buy shares if the stock rises above $72.60. If XBI sours after entry, consider placing a stop-loss below the 50-day moving average ($69).
On the options front, there’s a fire sale taking place. Implied volatility for XBI options just dropped to a multi-year low. Demand for derivatives hasn’t been this depressed in ages. Blame it on the summer doldrums. Or blame it on the fact that biotech has become a tad boring of late. Either way, options are cheap making long calls an exciting proposition.
Buy the July $70 calls for $3.25. The max risk is limited to the initial cost, and the max reward is unlimited. Since time decay will begin to ramp heading into expiration, I suggest exiting if you still find yourself in the trade two weeks from now.
As of this writing, Tyler Craig did not hold a position in any of the aforementioned securities.