Saturday, August 18, 2007

Biotech sector, the posterchild for volatility, shows resilience in chaotic markets

Back In March, I wrote about my expectations for a painful and drastic downturn in April and May (link to that article). I was wrong. The Dow, the Nasdaq and S&P continued to new highs while the biotech sector was flat despite posting solid Q2 earnings. Timing was not my only mistake. In my past experience, biotech stocks, specially ones with no earnings, have been hammered in bad markets and I expected that to happen again. But to my surprise, biotechs have been rather strong in an otherwise market that could be described as chaotic. This volatility has extended to include sectors and companies that do not have direct relationships to the real estate or mortgage industry (Boeing is a great example of this). I am guessing hedge funds that are in trouble are forced to sell stocks that have performed well to cover margin calls or redemptions.

Beside the subprime mess, there are signs of an economic slow down. Auto sales have been significantly down while retail sale have been just OK. The unemployment numbers are still low but are showing signs of deterioration. These are all good reasons to stick with large cap multi national companies of S&P and healthcare related stocks. Historically, pharmaceutical companies have been nicknamed defensive because their earnings are somewhat immune to economic downturns. I don't think this time around will be any different. I would recommend mixing a few good biotech names (CELG, BIIB, GENZ, AMLN) with good big pharma names such as (WYE, ABT, JNJ), maybe a good medical device company (ISRG, HNSN) and a couple of long shots (ALTU, VRTX, PDLI) into the Healthcare portion of any portfolio, which should be overweighted at this stage.

Those who like bottom fishing and have a long-term outlook should consider Amgen's (AMGN) poor performance this year as an opportunity to buy at good value. Despite problems with blockbuster Anaresp, the company is taking measures to sustain earnings with cost cutting measures and posesses a great pipeline of products in clinical stage.

For the short term traders, the following chart shows a strong correlation between MACD and price movement of the Nasdaq Biotech index (^NBI). In April oft this year and August of last year, when MACD histogram turned positive and the short term MA line crossed over the long term, it signaled a buy. I would watch for this in the next few weeks as a good signal to get in. It looks like the index is now roughly half way between 860 (resistance) and 760 (support). Unless the index crosses over resistnace, there is significant chance of sideways or a down side move.

Bottom line: Lack of panic selling in small, mid and large biotechs may indicate that momentum players and value players are lining up to buy these stocks in anticipation of a minor to severe downturn in the economy. It is perhaps a good time to overweight this sector in your portfolio.