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My investment theme for 2005 has been that for stocks to rally, technology shares must lead. And technology leadership begins with semiconductors. To this end, I have been tracking the semiconductor industry, as represented by the Philadelphia Semiconductor Index (SOX), both fundamentally and technically.

Now that we've reached the midquarter mark, it's time to update my outlook for the industry. Unfortunately, it's not looking good. The SOX's technical picture shows the index vulnerable to further correction.

Will the SOX components reporting this week provide the necessary positive guidance to overcome the technical warnings? A check of the profiles for

Applied Materials

(AMAT) - Get Applied Materials, Inc. Report


Marvell Technology Group

(MRVL) - Get Marvell Technology, Inc. Report

does not appear promising.

Struggles With the SOX

As a measure of SOX success, the index is up 29.1%. It made that move from the low of 376.64 on April 29 to the high of 486.34 on Aug. 2. Gains accelerated following the bullish moving-average crossover I

tracked on the SOX's weekly chart.

The crossover I was looking for confirmed semiconductor leadership on July 8. On that date, the five-week modified moving average crossed above the 200-week simple moving average. This was the first bullish crossover since November 1998. The five-week MMA had been below the 200-week SMA since September 2001.

The SOX has been in correction mode since its Aug. 2 high, sliding 5.6% from that high to the low of 459.24 set Friday. With this weakness, my model shows the SOX 22.0% undervalued with a positive but overbought weekly chart profile. I measure it as overbought by a 12x3 weekly slow stochastic reading of 83, which fits my overbought categorization as being above 80 on a scale of zero to 100.

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A close on the SOX this Friday below its five-week MMA at 454.97 would signal a deeper correction. My model shows that if this negative weekly close occurs, the SOX is vulnerable to a correction to my monthly value level at 437.03. That's still above the 200-week SMA, now at 424.80, but not far enough for comfort.

A Promising Move
The five-week MMA's cross above the 200-week SMA confirmed leadership.

Source: Athena Graphics on Telerate Plus, a Reuters product

To prevent this correction, there needs to be a daily close above the five-day MMA, which now rests at 469.48. This week's risky level at 480.43 is below the Aug. 2 high, which would provide a warning that the SOX will have difficulty trading back up to the Aug. 2 high at 486.34. It appears that even though semiconductors look good longer term, near-term strength should be used to reduce market exposure to this segment.

No Comfort in Earnings

As I indicated above, the profiles for two SOX components reporting this week don't brighten the tech leadership outlook.

Applied Materials, which designs integrated circuit fabrication equipment for the semiconductor industry, won't have an easy time unless it both beats the consensus expectations and raises forward guidance. It's expected to report EPS of 14 cents after the close on Tuesday, Aug. 16.

Applied Materials is shown as 20.1% undervalued by my model, with a neutral weekly chart profile. A negative reaction to earnings is likely to result in a weekly close below Applied Material's five-week modified moving average of $17.39. But there are several hurdles even to a positive reaction: my quarterly pivot at $17.82, the 200-week simple moving average at $18.12 and my semiannual pivot at $18.20. These will severely hamper any upside movement by the stock.

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Marvell, which designs analog, mixed-signal and digital semiconductors, faces expectations that it will report EPS of 29 cents postbell on Thursday, Aug. 18. My model shows Marvell 32.8% overvalued, with a positive but overbought weekly chart profile.

A positive reaction to earnings should result in a new 52-week high above $45.69, because Marvell is purely a momentum trade. I believe it is way too overvalued to be considered by long-term investors. A positive reaction to earnings that kept shares below my monthly risky level at $45.21 would be a red flag, and would merit some profit-taking. On a negative reaction to earnings, Marvell is vulnerable below monthly pivots at $44.30 and $42.72, but a weekly close below the five-week MMA at $41.94 would be a longer-term technical warning.

Richard Suttmeier is president of Global Market Consultants, Ltd., chief market strategist for Joseph Stevens & Co., a full service brokerage firm located in Lower Manhattan, and the author of Technology Report

newsletter. At the time of publication, he had no positions in any of the securities mentioned in this column, but holdings can change at any time. Early in his career, Suttmeier became the first U.S. Treasury Bond Trader at Bache. He later began the government bond division at L. F. Rothschild. Suttmeier went on to form Global Market Consultants as an independent third-party research provider, producing reports covering the technicals of the U.S. capital markets. He also has been U.S. Treasury Strategist for Smith Barney and chief financial strategist for William R. Hough. Suttmeier holds a bachelor's degree from the Georgia Institute of Technology and a master's degree from Polytechnic University. Under no circumstances does the information in this commentary represent a recommendation to buy or sell stocks. While he cannot provide investment advice or recommendations, he invites you to send your feedback --

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