Downside Ahead For Biotech Stocks?

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Since the August 24 and January 20 lows in the stock market, Biotechnology stocks have been massive under-performers. Currently there's little evidence to suggest the relative weakness in this sector is going to change anytime soon and current price action suggests further downside is ahead.

XBI

The daily chart of the Biotechnology ETF XBI shows prices running into the upper end of the rising wedge it's been trading in since late January. After breaking above the April highs, prices were unable to hold onto higher prices and are now closing back below them to confirm a failed breakout. As a result, prices look poised to retest the confluence of support near $53 in the coming days. Given that prices are below a downward sloping 200 day moving average and momentum is in a bearish range, I don't expect the $53 level to hold and ultimately think that prices will retest their year-to-date lows near $44. As long as prices are below the upper trendline of this rising wedge pattern, the bias remains to the downside.

Given the weakness in XBI, it's no surprise that there are many individual components of the sector that look vulnerable to further downside at current levels. One of these components is Vertex Pharmaceuticals VRTX.

VRTX Weekly

Structurally, a neutral / bearish bias is appropriate in this stock as long as prices remain below the 2000 highs near $100. The stock failed to hold onto its new all-time highs and now needs to work through the overhead supply that's been created by its trading above 100 for roughly 16 months. This can either be achieved through further consolidation and time, or sellers will become more aggressive and the stock will sell off from current levels. Obviously the former is the healthier alternative, but I think it's the lower probability outcome. Overall, these conditions present no reason to be long this stock unless it's above the 2000 highs of $100.

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VRTX Daily

Tactically, it's clearly indicated by the downward sloping 200 day moving average and momentum maintaining its bearish range that this stock remains in a long-term downtrend. Earlier this month prices retested former support at the September lows and the 38.2% Fibonacci retracement of the 2016 decline, but are now rolling over once again. As long as we're below the September lows, the bias remains to the downside and the stock looks likely to retest its year-to-date lows of $76.

The Bottom Line

Current market conditions suggest a neutral / bearish bias is appropriate in Biotechnology stocks. The Biotech ETF looks like it will ultimately test, and fail at, support near $53 before heading back toward its year-to-date lows of $44. Vertex Pharmaceuticals is one component of this sector that looks particularly vulnerable at current levels. As discussed above, it's likely that the stock will retest its year-to-date lows of $76 if it cannot get back above the September lows.

Whether you're trading this particular thesis through the XBI sector ETF or one of the many individual components that are breaking down, I think the risk/reward favors the bears at current levels. If you're going express this theme through an individual component like VRX, remember to identify any upcoming earnings announcements or events that could make it difficult to define your risk in the trade, that way you can adjust your position accordingly.

A bullish development for both XBI and VRX would be additional consolidation at current levels to work through the overhead supply in a healthy manner, while also allowing their 200 day moving averages to begin flattening out. I think this is the lower probability outcome, but I am remaining open-minded and will adjust my thesis as the weight of the evidence changes.

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Posted In: BiotechLong IdeasShort IdeasTrading IdeasGeneral
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