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Is a Correction in the Charts for Health Care Stocks?
Higher relative returns have a way of making investors think the trees can grow a bit taller or, failing that, the sky can be lowered. But market history illustrates the danger of such a mindset.
Howard L. Simons     

One of my favorite pastimes since the passage of the Affordable Care Act (aka Obamacare) has been tracking winners and losers within the health-care sector every time something in the law gets changed, postponed, delayed, or ignored. But one thing did not change between February 2011 and February 2014, and that was the sector's outperformance of the broad market, something you could have played quite easily with the Health Care Select SPDR (NYSEARCA:XLV).
 
We all know trees do not grow to the sky, but knowing it and acting on it are two different things. It often takes a triggering effect to hit us over the head with the proverbial two-by-four to get our attention. This happened in the biotechnology group way back in March 2000 when then-president Clinton and then-prime minister Blair together questioned patenting genetic-based therapies. 
 
This happened just after the Nasdaq (INDEXNASDAQ:.IXIC) hit 5,000. One of my colleagues at the time said, "I think it all begins today."  I rejoined that this was the third major sell-off in the Nasdaq that year, to which he shrugged and repeated his sentiment.  As events had it, he could not have been more correct. I thought about this when various congressional sources helped push a firm like Gilead Sciences (NASDAQ:GILD) over the cliff last month.
 
Risk And Return
 
An average of five-year credit default swaps relative to the iBOXX five-year investment-grade CDS index has increased while relative performance has declined. The opposite had occurred for much of the sector's long streak of outperformance; relative CDS costs, here plotted inversely, fell as relative performance rose. This is as it should be.
 

 
Now let's compare the same relative CDS measure to the relative volatility of the XLV and the SPDR S&P 500 Trust (NYSEARCA:SPY) itself.  We should expect the two measures of uncertainty to move in a related fashion, and they do. The relative implied volatility of the health-care sector had been rising for the better part of a year and then jumped as relative performance peaked. Once again, this is as it should be.
 

 
The risk is obvious. Investors were willing to ignore higher relative implied volatility during a long period of outperformance and were equally willing to sell credit protection on the sector's bonds. Higher relative returns have a way of making you think the trees can grow just a little bit taller or, failing that, the sky can be lowered. This will not be the case during a relative-performance correction as investors in a risk-reduction mode are going to be forced into shedding higher-volatility assets. That will create a self-reinforcing loop, especially for the sector's (formerly) high-flying biotechnology group. The weekly return on the iShares Nasdaq Biotechnology ETF (NASDAQ:IBB) since September 2011 has been over 125%. Investors tend to cash in winners before they bite the bullet on their losers.
No positions in stocks mentioned.xlv

The information on this website solely reflects the analysis of or opinion about the performance of securities and financial markets by the writers whose articles appear on the site. The views expressed by the writers are not necessarily the views of Minyanville Media, Inc. or members of its management. Nothing contained on the website is intended to constitute a recommendation or advice addressed to an individual investor or category of investors to purchase, sell or hold any security, or to take any action with respect to the prospective movement of the securities markets or to solicit the purchase or sale of any security. Any investment decisions must be made by the reader either individually or in consultation with his or her investment professional. Minyanville writers and staff may trade or hold positions in securities that are discussed in articles appearing on the website. Writers of articles are required to disclose whether they have a position in any stock or fund discussed in an article, but are not permitted to disclose the size or direction of the position. Nothing on this website is intended to solicit business of any kind for a writer's business or fund. Minyanville management and staff as well as contributing writers will not respond to emails or other communications requesting investment advice.

Copyright 2011 Minyanville Media, Inc. All Rights Reserved.

More From Howard L. Simons
Is a Correction in the Charts for Health Care Stocks?
Higher relative returns have a way of making investors think the trees can grow a bit taller or, failing that, the sky can be lowered. But market history illustrates the danger of such a mindset.
Howard L. Simons     

One of my favorite pastimes since the passage of the Affordable Care Act (aka Obamacare) has been tracking winners and losers within the health-care sector every time something in the law gets changed, postponed, delayed, or ignored. But one thing did not change between February 2011 and February 2014, and that was the sector's outperformance of the broad market, something you could have played quite easily with the Health Care Select SPDR (NYSEARCA:XLV).
 
We all know trees do not grow to the sky, but knowing it and acting on it are two different things. It often takes a triggering effect to hit us over the head with the proverbial two-by-four to get our attention. This happened in the biotechnology group way back in March 2000 when then-president Clinton and then-prime minister Blair together questioned patenting genetic-based therapies. 
 
This happened just after the Nasdaq (INDEXNASDAQ:.IXIC) hit 5,000. One of my colleagues at the time said, "I think it all begins today."  I rejoined that this was the third major sell-off in the Nasdaq that year, to which he shrugged and repeated his sentiment.  As events had it, he could not have been more correct. I thought about this when various congressional sources helped push a firm like Gilead Sciences (NASDAQ:GILD) over the cliff last month.
 
Risk And Return
 
An average of five-year credit default swaps relative to the iBOXX five-year investment-grade CDS index has increased while relative performance has declined. The opposite had occurred for much of the sector's long streak of outperformance; relative CDS costs, here plotted inversely, fell as relative performance rose. This is as it should be.
 

 
Now let's compare the same relative CDS measure to the relative volatility of the XLV and the SPDR S&P 500 Trust (NYSEARCA:SPY) itself.  We should expect the two measures of uncertainty to move in a related fashion, and they do. The relative implied volatility of the health-care sector had been rising for the better part of a year and then jumped as relative performance peaked. Once again, this is as it should be.
 

 
The risk is obvious. Investors were willing to ignore higher relative implied volatility during a long period of outperformance and were equally willing to sell credit protection on the sector's bonds. Higher relative returns have a way of making you think the trees can grow just a little bit taller or, failing that, the sky can be lowered. This will not be the case during a relative-performance correction as investors in a risk-reduction mode are going to be forced into shedding higher-volatility assets. That will create a self-reinforcing loop, especially for the sector's (formerly) high-flying biotechnology group. The weekly return on the iShares Nasdaq Biotechnology ETF (NASDAQ:IBB) since September 2011 has been over 125%. Investors tend to cash in winners before they bite the bullet on their losers.
No positions in stocks mentioned.xlv

The information on this website solely reflects the analysis of or opinion about the performance of securities and financial markets by the writers whose articles appear on the site. The views expressed by the writers are not necessarily the views of Minyanville Media, Inc. or members of its management. Nothing contained on the website is intended to constitute a recommendation or advice addressed to an individual investor or category of investors to purchase, sell or hold any security, or to take any action with respect to the prospective movement of the securities markets or to solicit the purchase or sale of any security. Any investment decisions must be made by the reader either individually or in consultation with his or her investment professional. Minyanville writers and staff may trade or hold positions in securities that are discussed in articles appearing on the website. Writers of articles are required to disclose whether they have a position in any stock or fund discussed in an article, but are not permitted to disclose the size or direction of the position. Nothing on this website is intended to solicit business of any kind for a writer's business or fund. Minyanville management and staff as well as contributing writers will not respond to emails or other communications requesting investment advice.

Copyright 2011 Minyanville Media, Inc. All Rights Reserved.

More From Howard L. Simons
Daily Recap
Is a Correction in the Charts for Health Care Stocks?
Higher relative returns have a way of making investors think the trees can grow a bit taller or, failing that, the sky can be lowered. But market history illustrates the danger of such a mindset.
Howard L. Simons     

One of my favorite pastimes since the passage of the Affordable Care Act (aka Obamacare) has been tracking winners and losers within the health-care sector every time something in the law gets changed, postponed, delayed, or ignored. But one thing did not change between February 2011 and February 2014, and that was the sector's outperformance of the broad market, something you could have played quite easily with the Health Care Select SPDR (NYSEARCA:XLV).
 
We all know trees do not grow to the sky, but knowing it and acting on it are two different things. It often takes a triggering effect to hit us over the head with the proverbial two-by-four to get our attention. This happened in the biotechnology group way back in March 2000 when then-president Clinton and then-prime minister Blair together questioned patenting genetic-based therapies. 
 
This happened just after the Nasdaq (INDEXNASDAQ:.IXIC) hit 5,000. One of my colleagues at the time said, "I think it all begins today."  I rejoined that this was the third major sell-off in the Nasdaq that year, to which he shrugged and repeated his sentiment.  As events had it, he could not have been more correct. I thought about this when various congressional sources helped push a firm like Gilead Sciences (NASDAQ:GILD) over the cliff last month.
 
Risk And Return
 
An average of five-year credit default swaps relative to the iBOXX five-year investment-grade CDS index has increased while relative performance has declined. The opposite had occurred for much of the sector's long streak of outperformance; relative CDS costs, here plotted inversely, fell as relative performance rose. This is as it should be.
 

 
Now let's compare the same relative CDS measure to the relative volatility of the XLV and the SPDR S&P 500 Trust (NYSEARCA:SPY) itself.  We should expect the two measures of uncertainty to move in a related fashion, and they do. The relative implied volatility of the health-care sector had been rising for the better part of a year and then jumped as relative performance peaked. Once again, this is as it should be.
 

 
The risk is obvious. Investors were willing to ignore higher relative implied volatility during a long period of outperformance and were equally willing to sell credit protection on the sector's bonds. Higher relative returns have a way of making you think the trees can grow just a little bit taller or, failing that, the sky can be lowered. This will not be the case during a relative-performance correction as investors in a risk-reduction mode are going to be forced into shedding higher-volatility assets. That will create a self-reinforcing loop, especially for the sector's (formerly) high-flying biotechnology group. The weekly return on the iShares Nasdaq Biotechnology ETF (NASDAQ:IBB) since September 2011 has been over 125%. Investors tend to cash in winners before they bite the bullet on their losers.
No positions in stocks mentioned.xlv

The information on this website solely reflects the analysis of or opinion about the performance of securities and financial markets by the writers whose articles appear on the site. The views expressed by the writers are not necessarily the views of Minyanville Media, Inc. or members of its management. Nothing contained on the website is intended to constitute a recommendation or advice addressed to an individual investor or category of investors to purchase, sell or hold any security, or to take any action with respect to the prospective movement of the securities markets or to solicit the purchase or sale of any security. Any investment decisions must be made by the reader either individually or in consultation with his or her investment professional. Minyanville writers and staff may trade or hold positions in securities that are discussed in articles appearing on the website. Writers of articles are required to disclose whether they have a position in any stock or fund discussed in an article, but are not permitted to disclose the size or direction of the position. Nothing on this website is intended to solicit business of any kind for a writer's business or fund. Minyanville management and staff as well as contributing writers will not respond to emails or other communications requesting investment advice.

Copyright 2011 Minyanville Media, Inc. All Rights Reserved.

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