Sunday, October 15, 2006

Charts show money flowing into Biotech sector

Sector rotation is something all investors need to consider in order to manage their portfolios. Earlier this year, we saw a rotation into commodity and consumer product stocks in addition to the energy sector which was driven by speculation. Now, at the beginning of Q4, there seems to be a new set of leadership stocks. Dow jones industrials have been getting the bulk of the headlines followed by big Nasdaq names such as CSCO, MSFT, ORCL and GOOG. Also, it is easy to speculate that there will be a year end rally in retails stocks.

Biotech stocks have quietly made a nice move in the past couple of months. There are some scientific conferences schedules in Q4 when news releases may cause some stocks to move, but I think most of this momentum is based on the upcoming earnings season.

Just to recap, the chart to the right shows the NBI index ( Nasdaq Biotech Index, click here to see why I chose to follow this index ). For 2006, ithas a performance of slightly below 0%. That in itself may not be a good reason to buy but fundamentally most biotech companies have done well within this sector. Yes, the big biotechs are no longer growing at 50 to 100% pace but their earnings will be growing in high double digits, which is very impressive. (Click here to see a table of expected growth rates).

Even though NBI has seen significant and rather quick bounce of 14% from 2006 lows, it is still 10% off from it's highs in March. More importantly, the NBI index has crossed above an important resistance of 760 and closed above a 200 day moving average. Because this sector has had a rapid ascent to these levels, I expect a short term correction which should be used as a buying opportunity.

This recent move does not mean anyone should jump into any biotech stocks and open a huge position. The following are some trading recommendations.

If you bought at higher prices, you should have already been averaging down by systematically picking up cheaper shares. If you have not done so, think about picking up some shares here if you have a long term outlook. If you are a short term trader or want to trade with options I would wait a little. You should wait until slow stochastics and williams %R indicators show over sold levels (both are overbought now) or if the NBI reaches the 50 day moving average currently at $745. If you do not own any shares you could either wait for a correction or buy a little now and decide to sell or to buy more after further movements in either direction. Either way, it is necessary to be disciplined and have a strategy and price points for both buying and selling.

Bottom line: Technical indicators show money rotating into the volatile Biotech sector and may be just the beginning of a long term ( few months) bull market. Invest selectively and wisely by being disciplined and patient and you can make some good returns in the next few months. Do some homework and stay away from companies with poor historical performance like MLNM or NTMD.


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