Biotech Stocks Awaken From Long Slumber

Biotech stocks struggled through most of 2019 but have now awoken from their long slumber and joined broad benchmarks in the fourth quarter rally. Big-cap components have posted the strongest gains since the uptick started in October, highlighting their membership in index funds that are now hitting all-time highs. Even so, more speculative mid and small caps have also gained ground, underpinned by the recent resurgence in the Russell 2000 small-cap index.

The biotech tape is reacting to the classic tendency for a "rising market to float all boats" while climbing a wall of worry ahead of a 2020 presidential election that will highlight radical solutions to reduce health care costs and drug prices. It appears that the market is now placing a bet that "Medicare-for-All" and other disruptive initiatives have little or no chance of passage, regardless of who wins the election.

iShares Nasdaq Biotechnology Index Fund (IBB) broke out to a new high in 2012 and entered a powerful trend advance that topped out in the mid-$130s in 2015 when scandals involving Valeant Pharmaceuticals, now Bausch Health Companies Inc. (BHC), and Martin Shkreli’s Turing Pharmaceuticals hit the headlines. The decline ended seven months later after a 40% slide, generating three tests of support into December 2018.

Price action reached the .786 Fibonacci sell-off retracement level in March 2019, pulled back into October, and is now testing the first quarter high. The straight up tape in the past seven weeks isn't favorable for a stable breakout, suggesting a downturn that is likely to find support at or above the narrowly aligned 50- and 200-day exponential moving averages (EMAs) near $106. That pullback could offer a low-risk buying opportunity ahead of a test at the 2018 high above $120.

Amgen Inc. (AMGN) has lifted into the ninth slot in Nasdaq 100 component relative strength in November, highlighting the strong bid in blue-chip biotech stocks. It broke out above 12-year resistance in the mid-$80s in 2012 and entered a strong uptrend that topped out at $182 in August 2015. A September 2017 breakout eased into a shallow rising channel, but buying pressure is now accelerating, predicting considerable upside in the next 12 to 18 months.

The stock broke out above five-year channel resistance at $222 last week and added about 10 points into Friday's closing bell. Accumulation indicators hit new highs as well, raising the odds for a sustained uptick toward $250. However, an intermediate reversal is likely in coming sessions, with a pullback into new support offering a low-risk buying opportunity. Keep stops tighter than usual during that test because a failure from a channel breakout can end long-term uptrends.

Vertex Pharmaceuticals Incorporated (VRTX) sits just below Amgen on the Nasdaq 100 leader board after breaking out to an all-time high in October. It completed a round trip into the 2000 high near $100 in 2014 and broke out, but the uptick failed in 2016, imitating a year of underperformance. The stock finally bottomed out in January 2017 and turned sharply higher, breaking out to a new high in July of that year.

Price action then eased into a rising channel, ahead of a November 2019 breakout that reached an all-time high at $218.60 on Friday. Even so, the uptick has now hit a second line of resistance, raising the odds for an intermediate reversal that tests new channel support between $200 and $205. As a result, it isn't wise to chase the upside right here, especially after an unrelenting seven-week 32% rally. Instead, wait for the pullback and get on board at a more advantageous price.

Biotech stocks are attracting healthy fourth quarter buying interest after a long period of apathetic price action.

Disclosure: The author held no positions in the aforementioned securities at the time of publication.