foxex: Heavy Hitters

Chart Advisor | Focus on the Price

Tuesday, November 19, 2019

1. Low Volatility Nasdaq Creeps Higher

2. The Nasdaq 100 is Driven by Five Companies

3. Can the Nasdaq 100 Move Higher Without its Five Largest Holdings?

Market Moves

The Nasdaq 100 index (NDX) closed slightly higher and traded within a tighter-than-average trading range. This price action has been repeated many days in the last several weeks, so much so that investors may be tempted to think stocks will keep going higher like this for a long time to come. The reality is that this outcome is highly unlikely if for no other reason than that stocks have not behaved that way in the past.

The chart below shows that the Nasdaq 100, as tracked by Invesco's index-tracking ETF (QQQ), has traded with a smaller-than-average trading range for 27 consecutive days now. With the exception of the extreme run-up at the beginning of 2019, a string of days that have traded with decreasing volatility for 32 consecutive trading sessions has not happened in over a decade. The current action is only five sessions away from that. This level of low volatility is so unusual that it may create a sharp pullback as investors inadvertently decide to take profits on the same day at some point in the future.

The Nasdaq 100 is Driven by Five Companies

The Nasdaq 100 Index is calculated by a modified capitalization methodology that includes the top 100 stocks on the Nasdaq exchange. You might be tempted to think that this index is made up of an equal influence of 100 different companies, but that would be incorrect. The weightings differ based on price of the stock and the number of outstanding shares--in short the market capitalization.

This becomes especially true as index components begin to shift upward in price relative to their peers. Under such circumstances, the influence on the index by a single stock tends to outpace its peers, sometimes in dramatic ways. Consider the pie-chart below which details the weightings of the five largest stocks in the Nasdaq 100 index: Apple (AAPL), Microsoft (MSFT), Amazon (AMZN), Google (GOOG) and Alphabet (GOOGL), and last of all Facebook (FB). (Note that GOOG and GOOGL are actually the same company.)

The combined weighting of these five companies is 46% of the calculation that goes into determining the price of the Nasdaq 100 Index. Almost as much as the remaining 95 companies combined.

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Can the Nasdaq 100 Move Higher Without Those Five?

If you consider the heavy tilt of the Nasdaq 100 index towards its five most influential companies, then an interesting question comes into focus. Investors might want to know where those five companies are headed relative to the index itself. The chart below provides a quick view.

This chart compares the Nasdaq 100 (green line) with an equal weighted portfolio of those top five companies (blue line). The portfolio of these companies seems to be noticeably diverging away from the index itself. This divergence would be even more dramatic if the influence of the top stocks were taken out (for this illustration they are not). It begs the question: can the index keep going up if its heavyweights are won't?

The Bottom Line

Despite closing lower than its open, the Nasdaq 100 closed higher on low-range trading. This marks the twenty-seventh consecutive session where it has done so. A pullback might come soon because this length of a streak is rare. In fact a quick comparison view of the Nasdaq 100 index and its top components shows that those components are diverging significantly and may drag the index lower if that is the direction they end up moving.