Invest In These Pharmaceutical companies
Sector Watch: One Hot Sector… One Cold Sector… And How To Profit From Each
Monday, June 2, 2008
by Jim Stanton, Technical & Quantitative Analyst, Smart Profits Report
Talk about being timely…
When I last wrote to you two weeks ago, it came on the day that the Dow Jones Transportation Average (^DJT) broke out to a new, all-time high.
I remember it well, because the pace of my typing could barely keep up with the pace of the index! Just as I wrote a sentence and crunched some numbers, the market promptly changed again!
The bottom line is that the new high was a bullish, longer-term event that should eventually take that index up to its next price target around the 6,040 area.
Following that high, the price of oil proceeded to race to a new high of its own, topping $135 a barrel on May 22.
This made the Dow Transports’ climb to new highs even more improbable.
But you can usually count on the hyper-sensitive big boys to react in a more predictable way…
Indexes Slip On An Oil Patch… But Bounce Back Up
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Given that the major indexes were already in shorter-term, overbought territory, they began to correct. When an index makes new highs and then reverses quickly, it tells us that it was just testing an old high and needs some time to consolidate before making another move up to its next price objective.
And because the overbought conditions coincided with oil’s charge to $135, the indexes sold off for several days.
However, when crude dropped by about $10 a barrel last week, stocks rallied again.
Not all stocks, though. Some of the biggest players remain in a funk - and that’s where we find this week’s opportunity…
A Tale Of Two Sectors: Big Pharma Vs. Biotech
Pfizer (NYSE: PFE)… Eli Lilly (NYSE: LLY)… Bristol-Myers Squibb (NYSE: BMY)… Schering-Plough (NYSE: SGP)… some of the largest and most recognizable names in the Big Pharma industry.
But biggest doesn’t necessarily mean the best. All four stocks are trading near multi-year lows, as they endure a desperate struggle against changing industry dynamics.
Specifically, a demoralizing twin comb First, their existing drug patents are expiring, which has opened the door for their rivals to make generic versions of the same drugs. Second, their once-beefy drug pipelines have eroded dramatically, leaving them with increased competition, but fewer ways to combat it.
So what’s the solution? As my colleague and healthcare expert Marc Lichtenfeld discussed just a couple of weeks ago, Big Pharma firms are flashing their best smiles and looking for a partner.
The reasoning is something like this: “We need new revenue streams, but why go through all the research and development costs to create new drugs, then endure years worth of expensive FDA clinical trials when we could just buy a smaller biotech firm, which already has promising new drugs in the pipeline?”
This works well for biotechs, since they often need a bigger, richer partner to help them pay for the cost of R&D, clinical trials, and marketing.
One For The Bears: Big Pharma
Although Big Pharma’s troubles may already be baked into the stock price, the fact that PPH has been unable to gain much ground over the past couple of months, and is now trading below its 200-week moving average, tells us that it’s still under selling pressure and is probably in a bearish consolidation pattern.
From here, a weekly close above the 200-week moving average would be the first sign of a potential turnaround, but the stock probably has to make new lows for the year before a sustainable rally can get underway.
But if we turn to the biotech sector, it paints a different picture…
One For The Bulls: Biotech
In contrast to PHH, IBB bounced strongly off of its March lows and is trading back above its 200-week moving average.
It appears to be in a bullish consolidation pattern and should move higher once the consolidation pattern is complete.
The Trend Is Your Friend
While this divergence between the Big Pharma companies and smaller biotech firms is interesting now, the trend actually goes all the way back to 2002.
For example, since the end of the bear market in 2002, PPH has gained just 18% while IBB has doubled in price. So how do you profit?
As you may know - and as Marc has cautioned in his previous biotech-based columns here - you have to be careful when buying individual smaller-cap biotech stocks.
While it can be very rewarding if you buy the right companies, you really have to know what you’re doing to avoid getting burned. It’s an inherently risky sector because it only takes one drug failure to crush a company’s stock.
However, the conservative way to play it from here is to buy IBB - especially if it pulls back near the 200-week moving average.
That’s all for this time.
Jim Stanton
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