NASDAQ: Detailed Analysis And Long Term Forecast

Summary

• Nasdaq has a good chance to confirm a long term correction by the end of March.
• A combined analysis of Technical Indicators, Candlesticks, Classical Patterns and Elliott Waves points down.
• Possible target: -22-35% off the top in the next 3-6 months.

Recently several members reached out to me asking about an educational post on the approach to my analysis, and I think I found a good candidate. Nasdaq Composite index seems to be in crossroads, and I will try to dissect it from the perspectives of Japanese Candlestick Theory, Technical Indicators, Classical Patterns and the Elliott Waves Theory, as well as share my view on future directions and targets.

In the study below I am going to share some parts of the thought process behind my condensed weekly and daily updates.

Let's explore the Nasdaq Composite.

Japanese Candlesticks & Technical Analysis

I usually start evaluation with candlesticks. The monthly, weekly and daily candles provide enough material for determining the long and short term trends and the inflection areas. When some technical indicators such as the moving averages, volume, and RSI are added, the picture becomes clearer.

Let us have a look at the long-term candles of Nasdaq Composite below.

Monthly

There are only 8 trading days left in March and we could start making some assumptions about possible monthly candle. In January the stock made a Spinning Top/Doji candle. We need to go back to March 2000 to find a similar monthly candle on the chart. In February NDX produced another Spinning Top that was also an Bearish Engulfing for the January's one and was also an Inverted Hammer. It looked like the stock is trying to say something by increasing the already bearish odds higher.

The March candle seems to have three main options:- close as a Bearish Engulfing ("as is" or a little lower);- make a Tower Top if closed below the December low;- form a Hanging Man if goes up and closes as a green candle.It looks like all three options are more or less bearish and it makes you think about possible directions of the index.

Of course, there is always a bullish path. However, from candles perspective, in order to cancel the Jan-Feb buildup, March candle needs to close above 14200. This is 9% up from the current level. While it is not impossible for NDX to make 9% in the remaining 9 days, the probability of it is rather humble.

Weekly

On February 15 the index made a powerful statement with a weekly Bearish Engulfing, the most powerful of all bearish reversal combinations. The next week opened with a gap down that is still not closed and which is a major resistance right now.The following two weeks formed a Three Black Crows that were stopped at the 20 EMA level. The Three Black Crows is considered among the strongest bearish continuation combos. Also note that the second week down flipped the PSAR to the dark side.

The last two candles are showing a real battle between the bulls and bears. The green one was a Piercing Line, an attempt to reverse the bad luck of the Crows, but it was rejected right at the 8 EMA line. This week has likely sealed the fate, canceling the Piercing Line, closing the red candle between 8 and 20 EMA lines.

Next week, a break through and closure above the 8 EMA would mean that the bulls won. But, if the next week closes below the 20 EMA line, the correction would continue.

Daily

For the last two weeks there were signs of possible recovery. Candles were able to close above the 8 EMA line, and some even above the 20 EMA line. However, a Spinning Top appeared on Tuesday. On Wednesday and Thursday, NDX produced a bearish Separating Line combo that points down and which canceled an attempt to make a 8/20 EMA bearish cross. On Friday, a meagre attempt by bulls that was clearly rejected at the 8 EMA, resulting in closure below the 8 EMA. Note that RSI failed to close above 50 even though it was there in the middle of Friday.

From the perspective of moving averages (MA), the price has been bouncing between the 50 MA (blue) and the 100 MA (purple). It makes me think that a decisive move through any of these line would provide the short/mid term direction for the index.

To summarize the Candlestick & TA musings, I am bearish, expecting the closures of the next weekly on March 26 and the monthly on March 31. The closure on March 31 will also provide a rare opportunity to evaluate a quarterly candle.

Technical Analysis

RSI

From the perspective of Technical Indicators, I would like to share the analysis of RSI on the daily scale.

If you analyze the recent rally from the moment that RSI started to diverge negatively against the price, you can see that there were three distinctive higher tops in price that had the corresponding lower tops in RSI. At the same time, the higher lows in price had the corresponding lower lows in RSI. Looking back at the beginning of 2020, a similar pattern was developed before the sizeable correction. 

If you evaluate the pattern by the magnitude, it took 36 days in 2020 to form the three tops. In 2021, a similar pattern completed in 46 days. While this does not necessary mean that an upcoming correction could be deeper, it definitely hints about the one to be longer than in 2020.

I posted a similar pattern for SP500 several days ago, questioning whether Mr. Market is ripe for reversal. You can view it here: https://investingangles.wordpress.com/2021/03/18/sp500-ripe-for-correction-18-03-2021/

On a side note, the Japanese Candlesticks Theory often mentions number "Three" as a very important number and many patterns and combos are built based on this concept.

P/E Ratio

I have been monitoring the P/E ratio on WSJ web site for many years at this link: https://www.wsj.com/market-data/stocks/peyields. The numbers for SP500 and Nasdaq might differ from the other sources, but I would like to point to the consistency of methodology that does not seem to change for years.

Today's Nasdaq number is 37.27 and this is above long term average of 25-27. If I assume that the price needs to correct in order to revert to the mean, the index would need to correct: [25-27]/37 - 1 = [32-27]%. Remember these numbers.

If we look at SP500 on the same site, the number is 44.63 and there are two major concerns about it. First, it is at the second all time high (the all time high was in 2009). Second, it is bigger than Nasdaq and I don't recall it being bigger in the past. The long term average for P/E of SP500 is 21-23 and, perhaps, SP500 has more room for a corrective action.

Classical Patterns

On February 25 and March 3 I mentioned that NDX had an opportunity to complete an either a Double Top or a Head & Shoulders classical pattern on the daily time frame. https://investingangles.wordpress.com/2021/03/03/nasdaq-candles-speak-03-03-2021/

The Friday's candles bounced up from the so called Neck line. Taking into consideration a rather strong bearish pressure on all time frames, I would not be surprised if Nasdaq breaks through the neck line and continues down. A breakouts like this could happen with a gap down below the neck line, so there is a possibility of a gap on Monday.

The classical patterns usually come with targets. As I am not entirely sure whether the pattern is a Double Top or a Head & Shoulders, I provided two possible targets on the chart.

I view that the index could go to 11550 (-17% off the top) or, possibly, to 10600 (-24%). The correction could last 1-2 months.

In the end of the analysis I will review the Elliot Waves approach and see whether we can find any corresponding moves and targets.

Elliott Waves

When I do the EW analysis, I normally start from the bigger picture.  In case of Nasdaq, I look at the all time chart that starts on February 8, 1971.  

Long Term - Monthly Chart

I consider that the major wave I of the index completed in March 2000. The index spent 2.5 years to complete the major corrective wave II in September 2002. Since then, NDX has been working on wave III that possibly ended on February 16, 2021.

From EW perspective there are several conditions that support the above hypothesis.

1. Wave III is exactly 2.618 of length of wave I, the most typical Fibonacci ratio for a wave three.
2. The sub-waves of wave III break down by classical ratios.
3. There is an ideal alignment of the tops and the bottoms from the channel perspective. The all time channel is marked red on the chart.

Remember, that from the candles perspective, the tops of I and III have a somewhat similar buildups on the monthly and daily time frames.

If all the assumptions about waves are correct, than Nasdaq is in wave IV. Following the Elliott's theory, the length of waves IV can be projected using two methods.

1. Wave IV typically retraces 0.236-0.382 of wave III. The blue rectangle on the chart - 9182-11090.
2. Wave IV can find the support at the level of wave 4 of a lesser degree - 9838.

I charted a channel by connecting the tops of waves I and III and making a parallel line through the top of wave II. Ideally, the wave IV should end somewhere on the bottom line of the channel, however, it would be not uncommon if it undershoots.

Once I explored that long term chart, I move to the shorter term one.

Mid Term - Weekly Chart

The weekly chart focuses on the last wave only. The weekly chart has all wave numbering from the long term chart as well as the long term channel lines.

I believe that the last wave 5 that started in March 2020 has finally completed and I have three reasons:

1. Wave 5 breaks down very nicely from the Fib level perspective, ending almost precisely at 2.0 level (green Fibs on the chart)
2. Wave 5 breaks very well by the Golden Section (golden Fibs), wave iv at 0.618 level.
3. Wave 5 breaks ideally from the timing perspective. Waves i-iii and iv-v have lasted the same number of trading days.

If all these evaluations are correct, the following would be the targets for wave IV:

1. Retrace of 0.236-0.382 of the length of wave III (blue Fibs, red rectangle), 11100-9200.
2. Retrace to the level of wave 4 of a lesser degree (blue rectangle), 9800-6600.
3. Retrace to the level of wave iv of a lesser degree (green rectangle), 12000-10800.
4. Remember that wave IV could undershoot the channel line.

I marked the overlap area of options 1 and 2, that is coincidentally just above the long term channel line with number IV. I view this area as the most probable one for the target.

From the timing perspective, I have only one reference point. As wave II lasted 2.5 years, I cannot reject the hypothesis that wave IV can last even longer and be an even more complex wave. However, there is also a possibility that this wave forms a quick zigzag in just 3-6 months.

Referring to the targets by other estimates:

1. By Double Top: -17-24%
2. By P/E adjustment: -27-32%
3. By EW wave targets: -15%-53%All nicely overlap in the area that I marked as "IV" on the Mid Term chart.

I think I am now ready to summarize all perspectives.

SUMMARY

If the next week and March close with the bearish candlesticks or form bearish combinations, I would be expecting a multi-month correction with the following targets for Nasdaq Composite index:

1. Price: 11100-9200: -22-35% off the top.
2. Timing: 3-6 months, possibly longer than 2.5 years.

The post and supplementary material can be viewed here: https://investingangles.wordpress.com/2021/03/20/nasdaq-long-term-forecast-educational/