The Nasdaq Stalled at a Perfectly Logical Spot
Some quick reminders before we get into it since there are more of you reading this now than there were last week. First, this is my diary on the market. It is in no way shape or form investment advice. These are the conversations that I am having with myself as I take in all that is happening in the market while trying to square it with the prevailing narratives and fundamentals. I do this to give some clarity to my thoughts. If you like what you are reading, please consider passing it along to others who might like it as well.
Next, if you have an opinion, I would love to hear it, especially if you disagree with something that I am thinking. I promise you that after starting in this business as a summer inter at the New York Stock Exchange when I was 16 years old, I have extremely thick skin.
In his book Liber Abaci, the Italian mathematician Leonardo Bonacci (who was later referred to as Fibonacci, from filius Bonacci meaning “son of Bonacci”) posed and solved a problem involving the growth of a population of rabbits based on idealized assumptions. The solution, generation by generation, was a sequence of numbers later known as Fibonacci numbers. In the Fibonacci sequence, each number is the sum of the previous two numbers: 0, 1, 1, 2, 3, 5, 8, 13, 21, 34, 55, 89, 144, 233, 377, 610, 987… you get the point.
The sequence itself is not that interesting. As the team at Investopedia put it:
But this sequence is not all that important; rather, the essential part is the quotient of the adjacent number that possess an amazing proportion, roughly 1.618, or its inverse 0.618. This proportion is known by many names: the golden ratio, the golden mean, PHI, and the divine proportion, among others. So, why is this number so important? Well, almost everything has dimensional properties that adhere to the ratio of 1.618, so it seems to have a fundamental function for the building blocks of nature.
They go on to point out a few instances where this “golden ratio” is seen in the world:
Take honeybees, for example. If you divide the female bees by the male bees in any given hive, you will get 1.618. Sunflowers, which have opposing spirals of seeds, have a 1.618 ratio between the diameters of each rotation. This same ratio can be seen in relationships between different components throughout nature.
Try measuring from your shoulder to your fingertips, and then divide this number by the length from your elbow to your fingertips. Or try measuring from your head to your feet, and divide that by the length from your belly button to your feet. Are the results the same? Somewhere in the area of 1.618? The golden ratio is seemingly unavoidable.
I have been fascinated by this since the first time I came across it while preparing for the CMT exams. Yup, this ratio shows up in markets. Taking a step back, the theory goes something along the lines of “the golden ratio is a fundamental part of nature, humans are part of nature, humans drive price action in the market, it makes sense that the golden ratio can be seen in market prices.”
The question is how? How can we use this while making investment decisions? Here is what makes the most sense to me. I am a trend follower. I like to buy what is already going up in the anticipation that it is going to keep going up…an object in motion tends to stay in motion, right? So when a key level is broken to the upside, I become more bullish. If a stock or an ETF is trading at a new 52-week high or better yet a new all-time, I am more likely to buy it than sell it. The mantra of “buy low, sell high” is lost on me. My mantra is “buy high, sell higher.”
Once something that is on my radar screen trades at one of these highs, I begin to think about how high it could go if my assessment of the fundamentals of the stock (or market) is correct. Enter Fibonacci. Remember that adjacent numbers approach a ratio of 1.618? Well numbers that are two places apart begin to approach a ratio of 2.618. I know you are diving 144 by 55 right now.
We can take these ratios and use them to come up with POTENTIAL upside objectives. Take a look at the Invesco QQQ Trust (QQQ). Since breaking above the year 2000 tech bubble highs, it has stalled at the 1.618 level and now the 2.618 level. These ratios are multiplied by number of points that QQQ lost from the 2000 high to the 2002 low. Once that high from the year 2000 was breached, we can look for logical stopping points along the way higher. Here is how it works (I rounded to whole numbers):
2000 High = $120
2002 Low = $19
Difference = $120 - 19 = $101
First Stop = ($101 * 1.618) + 19 = $182 (Green Arrow)
Second Stop = ($101 * 2.618) + 19 = $283 (Red Arrow)
By having an idea where a product may stall in an an uptrend or even begin to reverse, we can begin to connect the dots and manage risk. The QQQ ETF is mainly made up of fast growing or growth companies. Remember which group I said could be at risk if interest rates move higher? So rates have been moving higher which is a headwind for growth stocks just as a major ETF that holds growth stocks hit a spot where odds favor it taking a break? Interesting! Here is the monthly chart of 10-year yields with their highest monthly close since March.
If rates keep working higher, this group will likely continue to stall at a logical level. Taking the other side of the argument, if rates begin to fall, then we can feel comfortable that a move to the upside will take hold, starting with a break of the $280 level, and we can look to the next POTENTIAL stopping point. What’s 144 divided by 34? Math is fun!
As a reminder, I write a more in depth research note every trading day. You can give it a try here: