Market outlook : biotech companies

Every bull market needs leaders. The current bull has been led by three primary groups: health care, defense, and glamour stocks (think Netflix (ticker: NFLX)), plus an assortment of Johnny-come-latelies such as retail and banks. If the market is truly healthy, then when one group falls back, the next steps up to take the lead.

So when both old and new leaders stumble at the same time, the market may be sending us a message that things are not quite rosy. Such a signal does not mean that it is time to sell everything, but it is hard to justify putting new money to work until new leaders emerge.

Biotech is the best example of a leading sector that has been knocked off its pedestal. Although the sector has been easing lower since late last month, it really cracked Friday. The iShares Nasdaq Biotechnology exchange-traded fund (IBB) fell 4.7% as investors looked for an excuse to sell an overheated group.

Several component stocks dove multiple percentage points and a few, such as Biogen Idec (BIIB), were off more than 8%. That is a serious change of mood. The biotech ETF fell sharply below its key 50-day moving average, suggesting a change in trend.

To be sure, a dip below this average is often just part of the normal wiggle in a trend. This time, however, the steepness of the decline and unusually high levels of volume accompanying it were more than mere wiggles.

Biotech encompasses a wide range of companies, from big pharmaceutical makers to start-ups looking for a cure for cancer. The latter often come with single-digit stock prices and volatility too high for most individual investors, so we'll stick with the bigger companies here.

Gilead Sciences (GILD) tumbled last week, supposedly on news of patent infringement lawsuits in Europe. The stock actually peaked in February and broke down below its June 2013 trendline a week before the news came out. News was likely just an excuse to book some hefty profits

But the stock is now well below its 50-day average and came close to tagging its 200-day average before bouncing. A dip below the latter would be a very big deal because Gilead has not been below that average since December 2011. It would also represent a change for the worse in its long-term trend.

The Amgen (AMGN) chart looks a bit different. Like many of its peers, Amgen has been treading water since February (see Chart 3). Friday, as the biotech sector was getting hammered, Amgen scooted up to a fresh all-time high before succumbing to the bears by the close. That left—forgive the jargon—a "bearish outside-day reversal bar" on the chart as it closed at a five-day low.

The stock has not broken any trendlines just yet, but it certainly was a change of tone for the worse.

Celgene (CELG), which peaked in January, broke down below important support. And worse, it completed a head-and-shoulders pattern and moved below its 200-day average. This is a stock that has likely made a long-term top.

So has the biotech smackdown broken the market's back? As mentioned, if other sectors step up to take the lead then no, the bull can run on.

But right now I don't see anything taking over. I have a hard time putting trust in leadership by the recently awakened steel sector. And despite a Treasury bond market threatening to break out and send interest rates lower, home builders look terrible on the charts. Many consider this group to be very important to the health of the economy and to the market.