It's like déjà vu all over again – Are biotech’s in trouble?

Yogi Berra, one of baseball’s best catchers and unquestionably its greatest philosopher said while watching Mickey Mantle and Roger Maris repeatedly hit back-to-back home runs in the Yankees' seasons in the early 1960s “it’s like déjà vu all over again”.

The darlings of this bull market, the biotech’s, had their largest pullback, a nasty 25% correction, earlier this year. When looking at the chart of the Biotech etf, IBB, it should have come as no surprise that a correction was due, the only question was how big was it going to be. We had 2 successive closes outside the Keltner channel (highlighted with the red circles) while creating negative divergence on our RSI momentum oscillator.  Closes outside the Keltner channels, like the Bollinger bands are infrequent and should not be ignored.

Fast forward to today and you can see we have the exact same setup.  2 successive closes outside the Keltner channels which have created negative divergence on the RSI momentum oscillator. The only difference this time is that you can see today’s price is stalling at the resistance level (red horizontal bar) back at the all-time highs created just before the last correction.

There are no guarantees a correction will occur this time as it did in March, but considering the current setup, this is one that warrants further attention. In the inimitable words of Mr. Berra, "You can observe a lot by watching”

Silver Bulls - Beware

Below is a weekly, logarithm chart of silver from June 2010 until May 2013.  About half way through its parabolic rise (starting from the left hand side of the chart) it paused, rose above and then fell back to retest the 26-27 support zone I have shaded in gold. At the completion of that back test, it shot up with nary a breather until it peaked at almost $50 in April of 2011. From its peak, price fell back to test that 26-27 support zone (second red up arrow) in December 2011. From there it bounced up and crossed 35 only to stop, reverse and fall back to touch that 26-27 support zone for the third time.  Once again, just as before, the bulls stepped in and pushed prices higher but this time they could only get it high enough to cross 34 before it once again reversed course and fell back to the 26-27 support zone.  But this time the bulls were exhausted, the support zone no longer held and price began to fall hard. 

There are two take-aways from the above analysis

1.   Notice how each time it bounced off of support and created a new high, each successive high was lower than the prior high. This is a big warning flag whenever it happens as it shows declining strength/momentum and the potential for a bigger price decline.

2.   A touch of a support line on a weekly chart 2x happens infrequently, 3x is rare but 4x? Its usually a death sentence to the bulls. As such, the big fall that followed should have come as no surprise.

I wanted to go through the above analysis in detail as an educational piece to setup what is happening with the shiny metal right now.  Below is a look at the same chart above except I have extended the time period to bring it up to the present.

They say the markets don’t repeat but they do rhyme. Does it look familiar? It should send chills through the veins of all silver bulls.  It has the exact same setup that we saw in the prior analysis.

1.   3 touches at a critical support zone

2.   3 lower high bounces after hitting support.

3.   3 pushes of hidden bearish divergence (price is falling while momentum is increasing)

Technical analysis is just the study of the past to attempt to get a vision to the future.  There are, of course, no guarantees but if the past is any indication, silver bulls should be afraid, very afraid.

JJC - Graindrops keep falling on my head

The markets are always right in the long run but sometimes in the short term they get it wrong and overreact.  When that occurs it can provide a wonderful investment opportunity for those who are patient and have a long term investment horizon.  I have been watching grain prices since they peaked the middle of 2012 and have been water-falling downward ever since. The further I see them fall the more I become interested.

In the longer term weekly chart of the ETF that tracks the grains index (JJG) below you can see it has not been this oversold since this index has been in existence. Notice how the last time in 2008 when it was this far outside of their Keltner channels (green band) it popped up almost 50%. Just because it is oversold though does not mean it can’t get more oversold and it’s time to say the “bottom is in”.  Notice how at the end of June it broke down through the first line of support and is sitting at another critical level right now.  Also noteworthy is the volume spike in July which may be the indication of capitulatory selling.  These are all very reassuring signs a bottom may be close I am not completely convinced as 1) we don’t have positive momentum divergence or did we go back and touch the previous all-time lows.  While these are not required, they make me less confident committing money to this investment at this point as picking bottoms can be akin to catching a falling knife. 

When all the signs are not there, drilling down to a shorter time period can be very helpful.

Below is the daily chart of JJG looking back over the past 12 months and the first thing that should jump out at you is the waterfall decline, an almost 30% drop since May. On the positive side, the positive divergence I was looking for on the weekly chart shows up here. This is why it is mandatory to look at shorter time period charts as it has to show up first in the shorter time frame before it can in the longer period.  Two final constructive arguments that were not apparent on the weekly chart are the bullish falling wedge and the price-volume profile (gold bars on left side). 

A break above the blue dashed downtrend line, a break out of the falling wedge (solid blue lines) AND a closing price above 39.65 should give investors a compelling reason to look at JJG as a possible addition to their portfolio.

NIB - Chocoholics revolt

choc·o·hol·ic

noun \ˌchä-kə-ˈhȯ-lik,
A person who likes to eat chocolate very much

Sure, most food prices have been rising but when it comes to chocolate, for some, it becomes personal. Mars, the company behind the likes of M&M's and 3 Musketeers, said it was raising prices for chocolate products in the U.S. by about 7 percent to make up for higher ingredient costs. The decision followed a similar move from Hershey a week prior to Mars’ proclamation, which announced an increase of roughly 8 percent in wholesale prices.

A look at the price chart of the ETF that tracks cocoa prices (NIB) you can see prices have been on a tear since the first part of last year. After falling almost 50% in less than a year, prices bottomed in 2012 (somehow I don’t remember seeing the announcements from candy makers for a reduction in candy prices back then because of lower ingredient costs.  Hmmmm… how can that be?). For the next year prices bounced around and once again found a bottom (and note how it turned out to be) at exactly the same price in 2013 as it was in 2012.  In April 2013, price broke out of the blue down trend (resistance) line, retested that same line again in May and June and then began its comfortable, steady rise since. Prices have climbed 50% from the bottom.

Since the 2013 bottom, you can see price has been well contained and nicely bounded by the rising blue channel.   Also note the support/resistance line I drew in the 39-40 area. You can see back in 2011 that was an important area as price bounced off of it many times (it acted as support). Price eventually broke through to the downside after multiple attempts to hold. Even though price broke through that level, it still remains very important but rather than acting as support, it flips to resistance. So it should not surprise anyone that the first time price tried to move above it in April of this year it was rejected. Rarely does a support/resistance area of historical importance get penetrated on the first attempt.  After hitting that area initially, price moved back down to the lower blue channel in an attempt to build up enough energy (find more buyers) to make it through on the next attempt. Its easy to see why it was able to make it on the second attempt when you look at the huge spike in volume that occurred. The bulls stepped in with conviction. Now with price above, that line that was resistance will act as support in the case of a pullback.

With price not overly extended and all indicators bullishly configured, I would expect we see even higher price in our future. This combined with the fact cocoa prices typically peak in December (as you can see in the chart below), a retest the prior highs of 51-52 seems likely.  If this is the case, you chocoholics may want to go to Costco now and load up in bulk before the manufacturers find another reason to raise prices.

Investment truths

Some number of month’s back I decided to change the focus of my posts to technical analysis (TA) based ideas. Because I am not really very good at writing and technical analysis provides a more visual medium it allows me to communicate ideas in charts rather than struggle verbally. While a picture can be worth a 1000 words, I do realize that the written word can be so powerful and prophetic. This week I read an article by Josh Brown (http://www.thereformedbroker.com) that I thought could be so very beneficial to every investor (including professionals) that I felt compelled to deviate from my charts.  For the sake of brevity I am not including the entire article but rather just what I consider to be the most important parts. If you would like to read the article in its entirety, it is titled 7 Truths Investors Simply Cannot Accept. Hopefully you will find these investing nuggets as important as I did.

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Below are essential truths of investing that we are all aware of, but cannot accept at all times, no matter how much evidence we’ve seen.

Anyone can outperform at any time, no one can outperform all the time. 
There is no manager, strategy, hedge fund or mutual fund or method that always works. If there were, everyone would immediately adopt it and its benefits would be quickly arbitraged away. No one and nothing stays on top forever; the more time that passes, the more likely you are to see excess returns from a given style of investing dwindle. Until it becomes so out of favor that no one’s doing it anymore. That’s when you should get interested.

Persistence of performance is nearly non-existent.
In business, we like to bet on winners and go with what’s working now. On the field of play, we like to get the ball to whichever of our teammates seems to have “the hot hand.” While we are usually rewarded for this behavior in real life, we are penalized for it in the stock market. Because there is absolutely zero correlation between a managers past or recent performance and what may happen in the future. The out-performers of last year are equally like to outperform next year as they are to under-perform, statistically speaking. There’s literally zero rhyme or reason, even though emotionally we always want to bet with and be aligned with today’s champion. Are there exceptions? Sure, there are - but not many. You constantly hear about the few dozen managers who’ve beaten the odds and consistently outperformed, you hear almost nothing about the millions who’ve tried and failed. 

The crowd is always at its most wrong at the worst possible time. Over the long haul, only one thing is certain - there is no worse performing “asset class” than the average investor.  In the aggregate, investors under-perform value stocks, growth stocks, foreign stocks, bonds, real estate, the price of oil, the price of gold, and even the inflation rate itself. Nothing under-performs the investor class. We know this from studying dollar-weighted returns, a glimpse into not just how an investment performs but in how much actual money had been gained or lost by the people who invested in it. On the whole, we bet big on assets that have already gone up a lot and sell out after they’ve gone down. We allocate heavily toward star managers just as their performance is about to revert to the mean - and we even pay up for the privilege. This is the eternal chase and it is as old as the hills.

Fear is significantly more powerful than greed. Behavioral science has proven that we feel anguish over losses much more acutely than we feel joy over gains. As the surviving scions of a hundred thousand years of human evolution, we can literally point to this risk aversion as the primary reason our ancestors managed to pass on their DNA while so many others did not. As the descendants of the more cautious members of the species, therefore, we are genetically hardwired to act quickly when we feel threatened - and this extends itself to our most precious modern resource, our money.  That’s why markets drop much more quickly than they rise.

There is no pleasure without the potential for pain. Adjusted for inflation and taxes, the average annual return for stocks going back to 1926 is approximately four times greater than the return for ultra-safe bonds. Why? Because by investing in stocks, you are assuming more short-term risk and accepting greater volatility today. As a result, you are being rewarded in the future. It cannot ever be otherwise, this relationship between short-term risk and long-term gain is both elemental and incontrovertible.  Wall Street makes the majority of its money by convincing its customers that this rule can be skirted, manipulated or defeated. People will pay anyone nearly any amount of money who promises them all of the ups with none of the downs. Despite the fact that, in the fullness of time, this cannot possibly be achieved.