Keep an Eye on Chip Stocks

Chip stocks have recovered strongly off their 2008 lows, with many components hitting three- and four-year highs this year. The entire group then turned tail, dropping like a rock, with declining orders and expanding inventories. This major correction continued into this week when the PHLX Semiconductor Index (^SOX) undercut August support, hit a 52-week low and then turned higher. Has this beaten-down sector finally turned a corner and set itself up for a new expansion wave? It's possible, but don't bet the store because volume indicators show no evidence of a notable rotation into the group after Tuesday's reversal. In fact, the Semiconductor HOLDERS Trust (SMH) looks like it has unfinished business at this week's low. Semiconductor HOLDERS Trust (SMH) -- Daily Source: eSignal View Chart » The fund broke a six-month double top in August (blue line) and sold off to a 52-week low on Tuesday. The downtrend entered the fifth and final wave of a five-wave decline pattern on Sept. 16, with this week's bounce marking the fourth wave of that selloff leg. If so, this recovery attempt will fail and yield one lower low before the entire correction comes an end. Despite that mixed outlook, a few sector leaders are showing up on my relative strength lists. This is typical near the end of big corrections and I believe these stocks have already seen their 2011 lows and will head higher in coming months. Let's look at the top three on the list. SanDisk (SNDK) -- Daily Source: eSignal View Chart » SanDisk (SNDK) topped out six points shy of its 2007 high in January of this year and entered a steep decline that broke the 200-day exponential moving average in June. The selloff continued to a 17-month low at $32.37 in August, giving way to a steady recovery that tested new resistance at the moving average last month. After several rejections, the stock is now trading above that key level. Accumulation has been rising steadily, with On Balance Volume (OBV) hitting a new 2011 high last week. Meanwhile, price is pushing into a declining highs trendline set into place back in February. A breakout over that resistance level should signal an end to the correction and the start of a recovery phase that tests the 2011 high at $53.61. KLA-Tencor (KLAC) -- Daily Source: eSignal View Chart » KLA-Tencor (KLAC) topped out near $52 in March, after a strong recovery lifted the stock to a three-year high. The subsequent downtrend shows three major selling waves, which is typical in a completed correction. The last decline ended at $33 in early September, with the stock rising sharply off that level and pulling into a test at 200-day EMA resistance near $40. This stock is gathering fresh sponsorship, although it still has a long way to go to confirm the start of a new uptrend. For now, it needs to end the string of lower highs in place since March with a rally above the July swing high near $45 (red circle). Traders that are more aggressive can take early positions when the 50-day EMA lifts over the 200-day EMA and price settles above both moving averages. Marvell Technology Group (MRVL) -- Daily Source: eSignal View Chart » Marvell Technology Group (MRVL) stalled near $23 in April 2010, posting a lower high in January of this year and then turning lower in a major downtrend. It broke the 2010 low (red line) near $14 in August and plunged to a two-year low. The stock lifted back above broken support in September and tested the level successfully earlier this week. It's now pulled into an alignment of strong resistance at the 200-day EMA and seven-month-declining-highs trendline. A high-volume rally or unfilled gap above $15.50 to $15.75 will mark the start of a new uptrend, with an initial target at the top of the March 7 gap at $18.17. Once that level is finally cleared, the recovery should have a straight shot back to the 2011 high.

Keep an Eye on Chip Stocks

Has this beaten-down sector finally turned a corner and set itself up for a new expansion wave?

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