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Stocks hover near upper end of day's range

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The major market averages have been holding near the upper end of their ranges, but are off the best levels of the session. Sector weakness is being found in the energy groups as the Oil Service Index (OSX.X) leads sector losers with a 2.8% decline at $76.33. Also showing some fractional weakness is the Oil Index OIX.X and Natural Gas Index (XNG.X), but both are down fractional.

Sector winners have been Networking (NWX.X) and Internet (INX.X), but the Biotech's (BTK.X), which had taken a rest and were consolidating after a nice move off the bottom look to be ready for another run higher.

Biotech Index Chart -

In late September, we thought the Biotech's would be the group to look for in NASDAQ leadership. And lead they did as traders got a powerful move higher from the $440 level. We've done some work over the past couple of weeks with regression channels to try and map out what we thought might take place in the sector, based on earlier action this spring. We didn't get the pullback to the $528 level like we were looking for and today's move back above the $563 level has us on alert for a break into the upper channel of regression. A move above the $577 level would have the BTK.X in the upper portion of the channel (cloned from this spring) and that could have the group running further to $618. I still think NASDAQ leadership will be found in the group and a focus of NASDAQ stock traders.

As this stock goes, so goes the sector?

It has been argued that there's a "key stock" in every sector that can make or break a sector's performance. Should that key stock catch fire and surge higher, or fizzle and go "poof" the sector and associated stocks in that sector will experience similar price action.

For the software stocks it could be Microsoft (NASDAQ:MSFT) that is the "key stock." For networking it's most likely Cisco Systems (NASDAQ:CSCO). For the Internet's, that "key stock" might be Yahoo! Inc. (NASDAQ:YHOO).

One an Internet bull's best friend, the stock's price action has had sector bulls yelling "Ooo-yuck!" and not necessarily Yahoo! However, there are certain times, when the stock presents some attractive entry points and favorable risk/reward profiles based on the technicals. Right now, might be one of those times.

Yahoo! Inc. Chart - $1 and $0.50 box

After giving an alarming "bearish triangle" pattern back in early August at the $16 level, shares of Yahoo! (YHOO) have started to put together a brief series of higher lows. Last week's pullback came right down to the lower end of an upward channel giving a bullish trader a favorable entry point, with a stop at $10.50, which would be a double bottom sell signal. In point and figure terminology, the stock is currently trading on a buy signal, with a longer-term bullish price objective of $18. From a risk/reward perspective, the stock is attractive at the $11.50 level (today's current high). It would take a trade at $12.50 to get the above chart back into a column of X's. The technique of "channeling" gives the trader hint that the stock my be near the lower end of a bullish channel. One strategy for a bullish trader not willing to commit too much capital to the stock at current levels would be to establish 1/4 or 1/2 position at current levels, then look to add to the position on a break above $13.50. This strategy allows the trader/investor to expose some capital to a rather "wild" stock in what looks to be an early recovery phase, but not suffer a great loss should they be stopped out at $10.50. Should the stock continue to find buyers to the $13.50 level, the trader then has some longer-term momentum starting to build in their favor. They will also begin building some "breathing room" from their earlier bullish position as they average up at $13.50.

Yahoo Inc. Chart -

The bar chart of Yahoo! Inc. (YHOO) also hints of some bullishness or support starting to build in the stock at the $10.82 level. Retracement that could have actually been "fitted" from the May 1st close to the June 18th low of $15.28 "resulted" in the 0% retracement of $8.11. The midpoint being 50% retracement of $15.21. In essence, market makers took on a very defensive posture toward the stock on the break below 50% retracement as they may have needed to protect a range to $8 at the lower end. Now we're starting to find some support take place at 19.1% retracement as market makers begin to square up inventories and get a more neutral bias toward the stock as they may be protecting against a rally back to 50% retracement. By using the retracement bracket, we now have some levels to test against going forward. As each level is violated to the upside, things become more bullish for YHOO. This is just the opposite of what we saw when levels were violated to the downside. Who has the risk? A market maker that is short 1 million shares in YHOO or one that has his inventory square and "neutral" at $10.82?

Jeff Bailey
Senior Market Technician
Option Investor

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