The performance of the semiconductor industry has been one of my biggest surprises of the year so far.

Since January, the VanEck Semiconductor ETF (SMH) is up almost 30%. That’s an incredible move considering the Nasdaq is up around 20% on the year and the S&P 500 is up a little over 7%.

This relative outperformance has seen cash flood into stocks like Nvidia, Taiwan Semiconductor Manufacturing, and Advanced Micro Devices.

But now, I’m seeing signs that this big move is getting exhausted. The broader semiconductor space is starting to look vulnerable to a significant pullback.

Let’s take a look at SMH’s price chart to show you what I mean…

There are two important features going on…

First, notice the rising wedge pattern I’ve drawn using the blue trendlines. A rising wedge is a classic reversal pattern.

The key characteristic of a rising wedge is how both trendlines slope upwards. Eventually, these trendlines will cross one another.

If prices break out from the bottom of the wedge before the trendlines cross, then the wedge is complete. And once this pattern finally completes, we should see SMH trade significantly lower.

My downside target for this wedge is right around the $200 level, which is the base of the pattern.

Next, notice the bearish divergence (red line) in the Relative Strength Index (RSI).

Bearish divergence occurs when the price of a market goes steadily higher, but a momentum indicator (like the RSI) starts trending lower.

Whenever I track potential reversal patterns in the market, it’s very important for me to see bearish divergence… Because it’s a highly reliable sign that eventually, prices will follow the indicator.

In the case of SMH, the combination of the rising wedge and the RSI’s bearish signature shows we should be very cautious about the semiconductor industry.

Now is not the best time to play the short side on SMH. Instead, if the market does sell-off, the action could offer a great chance to buy the dip.

Over the coming weeks, I’ll be tracking SMH to notify you of any potential opportunities.

Happy trading,

Imre Gams
Analyst, Market Minute

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Source: Jeff Clark Trader