BALTIMORE (Stockpickr) -- Big pharma has been a solid performer for most of this year. The pharmaceuticals industry is up more than 8.5% since the calendar flipped to January, outpacing the S&P 500 and the other big indexes by a meaningful margin. Put another way, pharma stocks have been a welcome remedy for the lackluster performance seen elsewhere in the equity world.
But as the summer fast approaches, pharma and medical device stocks are starting to show some nasty side effects. In June, some of the biggest, most widely-owned pharma and device names could be hazardous to your portfolio's health. So today, we'll take a closer technical look at five stocks that are starting to look toxic -- and exactly what conditions need to get hit for the sell signal to trigger.
Just to be clear, the companies I'm talking about today aren't exactly junk. By that, I mean they're not next up in line at bankruptcy court. But that's frankly irrelevant; from a technical analysis standpoint, sellers are shoving around these toxic stocks right now. For that reason, fundamental investors need to decide how long they're willing to take the pain if they want to hold onto these firms in the weeks and months ahead. And for investors looking to buy one of these positions, it makes sense to wait for more favorable technical conditions (and a lower share price) before piling in.
For the unfamiliar, technical analysis is a way for investors to quantify qualitative factors, such as investor psychology, based on a stock's price action and trends. Once the domain of cloistered trading teams on Wall Street, technicals can help top traders make consistently profitable trades and can aid fundamental investors in better planning their stock execution.
So, without further ado, let's take a look at five toxic stocks you should be unloading.
Up first is the sole medical device stock on our list: Boston Scientific (BSX). Boston Scientific has been a strong performer in 2014, rallying nearly 10% year-to-date. But after moving higher for a while now, BSX's chart is starting to show some cracks. Here's how to trade it.
Boston Scientific is currently forming a descending triangle, a price setup that's formed by downtrending resistance above shares, and horizontal support to the downside (in this case at $12.50). Basically, as BSX bounces in between those two technical levels, it's getting squeezed closer and closer to a breakdown below support. When that happens, we have our sell signal.
It's important to realize that the BSX trade is contingent. It only becomes a high-probability sell is $12.50 gets violated with a breakdown. Shorts should keep a protective stop just above the 50-day moving average.
Big pharma name Bristol-Myers Squibb (BMY) is already rolling over. After spending late 2013 and early 2014 in rally mode, this drug maker started establishing a long-term classical topping setup. And with shares breaking through support this week, we're getting a big signal to sell.
BMY is currently forming a head and shoulders top, a setup that indicates exhaustion among buyers. The setup is formed by two swing highs that top out at approximately the same level (the shoulders), separated by a higher high (the head). The sell signal comes on a move through BMY's neckline, which is currently right at $48. With that price tag taken out on Wednesday, sellers are definitively in control of shares right now.
Momentum, measured by 14-day RSI, provides some foreshadowing for the downside in BMY. While Bristol-Myers Squibb's price has been slowly moving higher (or worst-case, flat), momentum has been making lower highs and bleeding off. That's a big red flag. Support at $40.50 looks like a reasonable downside target from here.
We're seeing the exact same setup in shares of Pfizer (PFE) right now, though the $189 billion firm is a little less far along. Like BMY, Pfizer is currently forming a head and shoulders top, in this case with a neckline at $29. If $29 gets violated, PFE becomes a high-probability sell.
Why the significance at $29? Whenever you're looking at any technical price pattern, it's critical to keep buyers and sellers in mind. Patterns like the head and shoulders are a good way to quickly describe what's going on in a stock, but they're not the reason it's tradable. Instead, it all comes down to supply and demand for shares.
That horizontal $29 level in PFE is the spot where there's previously been an excess of demand for shares; in other words, it's a price where buyers have been more eager to step in and buy shares at a lower price than sellers were to sell. That's what makes a breakdown below support so significant -- the move means that sellers are finally strong enough to absorb all of the excess demand at the at price level. Keep a close eye on $29 this week.
Generic drug maker Mylan (MYL) is another pharma name that's looking toxic this week. The good news is that you don't need to be an expert technical analyst to figure out what's going on in shares of this $19 billion name. Instead, a quick glance at the chart should tell you everything you need to know.
Mylan has been a stellar name for the better part of the last year, climbing more than 63% higher in the trailing 12 months. But shares broke trend line support back in April, and they've been bouncing lower in a textbook downtrending channel ever since. So now, as MYL makes its fourth test of trend line resistance in as many months, it makes a lot of sense to sell the next bounce lower. This name could have a lot further to run in this downtrend.
We're seeing that confirmed by relative strength right now. The relative strength line has been trending lower since March, an indication that this stock isn't just dropping, it's also dramatically underperforming the rest of the broad market in the process. In other words, the recent decline in MYL isn't being driven by a broad market dip; this stock just looks toxic. Since relative strength is statistically a very good predictor of price action on a rolling three-to-ten month time horizon, it's a red flag worth watching closely in June.
Last up is Danish pharma firm Novo Nordisk (NVO), a name that's been moving lower in a downtrend of its own since the end of February. Just like with Mylan, NVO is testing resistance again this week, and it makes sense to sell this stock's next bounce lower off of trend line resistance. It may be tempting to sell now, before shares bounce lower, but waiting a little comes with some big advantages.
Waiting for that move down before clicking "sell" is a critical part of risk management, for two big reasons: It's the spot where prices are the highest within the channel, and alternatively it's the spot where you'll get the first indication that the downtrend is ending. Remember, all trend lines do eventually break, but by actually waiting for the bounce to happen first, you're confirming that sellers are still in control before you unload shares of NVO.
The 50-day moving average has acted like a perfect proxy for trend line resistance over the last month or two. That's the spot where shorts should keep their stops. It's also the spots that longs should be watching for the signal that NVO's downtrend is over.
To see this week's trades in action, check out the Toxic Stocks portfolio on Stockpickr.
-- Written by Jonas Elmerraji in Baltimore.