foxex: Follow the Leaders

Read in Browser

Chart Advisor | Focus on the Price

By Gordon Scott, CMT

Wednesday, July 08, 2020

1. New highs in before earnings likely to be overdone

2. The history lesson from Netflix

3. How to watch Amazon's share price

Market Moves

Stocks resumed their strong upward trend today. The Nasdaq 100 (NDX) rose 1.4% to a new historic high close. The S&P 500 (SPX) and the Dow Jones Industrial Average (DJI) both closed higher. Commodities such as gold and oil closed higher as bond prices and the U.S. Dollar index (DXY) retreated. While these price dynamics set the stage for prices to continuing trending higher, investors should take care to recognize that earnings season could bring significant changes.

The charts below examine three bellwether stocks within one of the leading industry groups, namely, semiconductors. Keeping an eye on the price action of leading stocks in leading industry groups is a good way to get indications of an early warning signal if the market trend begins to change. The iShares PHLX Semiconductor index fund (SOXX) shows relative strength compared to Invesco's Nasdaq 100 ETF (QQQ). The three stocks with the highest weightings in the SOXX fund are shown in the right half of the chart, including Nvidia (NVDA), Qualcomm (QCOM), and Texas Instruments (TXN). The performance of these three stocks varies, but all of them will make good indicators if this market-leading industry group reverses course.

The History Lesson from Netflix
In the final three months of 2018, market indexes fell by more than twenty percent, bookending the year with the second significant period of volatility, only to see the markets scramble higher in 2019. This frustrating dodge by the markets has been repeated--at least the first half of the moves--but with greater intensity and for very different reasons. Investors need to be prepared to respond early if unforeseen future circumstances create an even bigger response than the initial pandemic-driven sell off.

Chart watchers may consider it useful during this week to consider a history lesson given by one stock, Netflix (NFLX), which gave investors an early warning sign three months in advance of the precipitous drop at the end of 2018.

The chart below shows four key points for investors to be aware of: first (1) the moment Netflix hit its highest trading price of the year (recognizable only in hindsight), followed by (2), a point in time one month later when NFLX crossed over its 50-day exponential moving average (EMA), point (3) which denotes how QQQ is still trending higher as NFLX has diverged lower, and (4) a point in time three months later when QQQ crossed below its moving 50-day EMA to begin a significant downward trend.

If investors had known what to look for, they could have responded by selecting a safer investing profile in the two months before the Nasdaq 100 reversed course. To gain the same kind of insight today, investors would need to be closely watching a stock like NFLX was back then. Such a stock would be one leading indexes higher, without a solid explanation for the extent of its market-beating performance. For 2020, that stock is Amazon (AMZN).

Investors Dumping Airline Stocks Like Hot Potatoes

Charts Suggest Semiconductor Stocks Are Headed Higher

SPONSORED BY INVESCO
The Complete Guide to ETFs
ETFs are becoming increasingly popular and soaring to new heights among investors. Invesco's insights can help you determine if these investment vehicles are right for you.

LEARN MORE >

How to Read Amazon's Share Price

The chart below sets up a similar comparison to the previous study of NFLX in 2018. Amazon may not have hit its high point for the year (there is no way to tell), but if it were going to do so, right around earnings is a more probable period of time when it could occur. That is when the high point happened for Netflix two years ago.

The chart below depicts what an early warning indication could look like on the price of AMZN. If the Nasdaq were to continue higher while Amazon retreated, this divergence could easily signal the advent of trouble for the market as a whole.

The Bottom Line

Stocks closed higher today as investors seemed to shrug off worries. Two years ago at this point in time, Netflix began to give an early warning of trouble for the markets. A comparison of NFLX and AMZN price patterns may give chart watchers a way to spot a similar early warning should it be needed in the months ahead.