Overhead Supply in Healthcare & Biotech

Overhead supply.

This is a common theme across U.S. equities that I have been pounding the table on since last month. There is nothing more clear out there as far as I'm concerned. The S&P500 had been consolidating in a sideways range for most of this year before resolving to the downside. This creates a big problem. All of those people that never sold now become future supply. This is the "just please get me back to even" crowd. On any strength back towards that former support, that supply of stock is sitting there just waiting to be sold to you.

Healthcare was one of our favorite shorts back in August as we were breaking support. This confirmed a bearish momentum divergence and failed breakout, compounding the problems in Healthcare (See: Is Healthcare Due For A Collapse?). Our initial downside targets were hit pretty quickly, but now going forward, all of that former support becomes overhead supply. We are currently seeing this:

All of these broken support levels in $XLV now become overhead supply. It is very difficult for the market to just rip through that until all of that supply is absorbed. At the very least, it will take time to recover from the damage that has been done. Worst case, prices head a lot lower. Either way, this is not a market where we want to be buying dips. It's a market where we want to be fading strength. Notice the common theme? (See: Seller of Strength, Not A Buyer Of Dips)

Within this space, we're seeing the exact same thing in Biotechs. In July, the $XBI hit our ultimate upside target which was based on a combination of the 261.8% Fibonacci extension of the 2014 correction and 161.8% Fibonacci extension of the correction earlier this year. Long time readers know that it's when these Fibonacci levels cluster together like this that I pay attention the most:

Going forward all of that support from earlier in the summer that broke down last month becomes overhead supply. We've seen this support turn into resistance nicely over the past week. This $81 level (post split-adjustment) was resistance in March and early June which turned into support in July before its last leg higher. There is a lot of market memory here, meaning a large number of shares changed hands at this price. This is where the "please just get me back to even" crowd is waiting to sell to you:

This theme of overhead supply can be seen in most sectors across the marketplace and especially in the indexes themselves. The remedy here is time. Time is the best case scenario where prices don't go much lower, build a base, and then get back above this $81 area for Biotechs and $74 for Healthcare. I'm not betting on this happening any time soon which is why for now I would prefer to sell into strength rather than looking to buy weakness.

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Tags: $XLV $XBI $SPY