The markets paused this week, following stocks most volatile 5 weeks in history. The Dow plummeted over 37% in 4 weeks then bounced over 20% in just 3 days, triggered by the $2 trillion fiscal stimulus bill. Now the markets are waiting for a new catalyst to drive a more decisive move.
Fibonacci Retracement Levels
Over the past 8 trading days, the S&P 500 has been trading in a range bound by Fibonacci retracement levels. Below you can see the retracement I drew on tradingview.com from our highs on February 20th to our lows on March 23rd. The S&P 500 has been trading in the range of 2450 – 2650 since March 25th.
Fibonacci retracement is a useful tool for traders as it indicates resistance and support levels. There are many different arguments for why these levels hold, whether it marks good risk/reward points or has to do with natural law, but at the end of the day it works because everyone is using these levels.
It’s a self-fulfilling prophecy. Day traders base their trading decisions off these levels and quantitative funds have trained computer algorithms to trade utilizing the Fibonacci sequence, which forces these levels to hold.
The 61.8% retracement level is the most important because it represents the “golden ratio,” in which the Fibonacci sequence was derived. You can see the that the 61.8% level (S&P 500: 2650) was the resistance level of our most recent rally.
To get out of our current range, we need a catalyst that will drive stocks one way or the other. Virus data is going to drive stocks more than economic data during this pandemic driven recession.
Potential Upside Catalyzers:
- The global new case rate for the virus begins to decline
- South Korea and China successfully resume regular business without issue
- World economies start to open up
- Treatment/vaccine timelines are moved up
Potential Downside Catalyzers:
- China and/or South Korea attempt to get people back to work but the virus continues to spread and forces them to go back into lockdown
- The global cases continue to grow exponentially through April
- Quarantine timelines are extended, and GDP expectations fall further
- A wave of bankruptcies
What I Am Doing
My position right now is bullish on stocks in the long run, but highly uncertain in the near term. I believe that we have more room to fall from our current levels. I am hoarding cash at the moment, waiting for my opportunity. I was buying equities all the way to the bottom and am just holding through this “bear rally.”
These are unprecedented times, and with such high uncertainty, the only names that I would buy are ones with healthy balance sheets. My attention is on tech companies that are driven by cloud technology, which I anticipate will see a surge in the coming months as telecommuting (aka working from home) becomes the norm.
Fibonacci retracement is a good tool to use when deciding if now is a good time to buy, but do not look at it as the holy grail. In this volatile market, we are prone to blow through levels. Make sure you have a shopping list of stocks you like ready so that you can pull the trigger when the time comes.
We are in what I think is one of the best buying opportunities of our lifetimes. We need to make sure that we play it right – buy when the market breaks and average down with small orders.
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