Taking another stab at extremes in Biotech

Key points:

• Selling in Biotech stocks reached a historic extreme in late January
• Since then, the stocks have tried to recover, and a composite breadth indicator has been rebounding
• Similar reversals preceded excellent returns, but there was a failure in December

In Biotech, extreme got even more extreme

In December, we looked at the near-washout in Biotechnology stocks. As we saw with the high level of stocks in the Nasdaq cut in half, many of those were in Health Care, specifically Biotechnology.

It turns out it wasn't quite the washout. Sellers returned in force and pushed the stocks to lower lows. That false bottom in December triggered several new extremes now attempting a reversal.

Touching on some of the longer-term metrics we looked at in December, fewer than 10% of the stocks managed to hold above their 200-day moving averages at the worst point last month. Only the cascading declines in 2016 and 2018 matched this in recent years.

That selling pressure pushed more than 95% of the stocks into bear markets - more than 20% off their peaks. Again, that level of wholesale and heavy pressure has been matched only a few times in recent years.

Even more notably, the median decline these stocks suffered was so massive that we need to go back to at least 1999 to see similar behavior. Near the end of January, the average Biotech stock had lost more than 60% of its value from its 52-week high. The only dates that exceeded this were a couple in late March and early April 2001. It got close in February 2016 when the median drawdown reached -57%.

Aggregate breadth reached a historic extreme and is trying to recover

The chart below shows the overall breadth composite we looked at in December. It dropped below 15% in late January, which matches the lowest readings in 23 years, on par with March 2001, July 2002, and February 2016.

The table below shows every time the composite fell below 20% and then recovered above 35%, which it just did. Returns in the months ahead were excellent, though that terrible December failure shows up.

What the research tells us...

There was a reasonable basis to expect long-term returns to be positive for Biotechnology in mid-December. This was one of those times when extreme got even more extreme, and anyone who was early is sitting on significant losses. Now there has been another round of extremes, even more profound than a couple of months ago, and on par with the very worst panics in 23 years. There has been something of a recovery, and other than December's folly, returns after similar behavior were excellent over the medium- to long-term.