Nasdaq 100’s big recovery faces a key tipping point
Eighteen months since the start of a near year-long sell-off, the Nasdaq 100 Index has recovered half the losses that pushed it into a bear market. The question now: Can the tech-heavy gauge extend its rally?
Much of the answer likely lies within its seven biggest components, which between them have accounted for most of the index’s rebound. Apple, Microsoft, Alphabet, Amazon.com, Nvidia, Meta Platforms and Tesla have all gained at least 30% this year, with Nvidia and Meta both doubling. Without their contribution, the Nasdaq 100’s 24% advance this year, as of its last close, would shrink to just 4.1%, Bloomberg-compiled data show.
The index rose 0.2% on Thursday.
According to Ari Wald, head of technical analysis at Oppenheimer, “big tech could see a pause on near-term overbought conditions, but in our view they’re just getting going. They’re coming off a very difficult period in 2022, and macro trends like a low-growth backdrop and lower yields support a recovery in these high-growth companies. We think there’s more to come.”
For sure, the actions of the Federal Reserve will have a large part to play. Expectations that the Fed may start cutting interest rates as soon as July to stoke economic growth have been a key driver of big tech’s rally and any disappointment on that front would undoubtedly weigh on sentiment.
“Further Fed rate rises would be a potential challenge for long duration assets like tech stocks,” said Russ Mould, investment director at AJ Bell. Conversely, a pause in U.S. rate hikes, or even hints of cuts, would help, he said.
Earnings will also be key. Megacap results this reporting season were largely taken as confirmation the group can continue delivering strong growth. And given their fortress balance sheets and durable revenue streams, investors have gravitated toward the stocks in periods of uncertainty, such as this year’s banking turmoil, or the debt ceiling standoff in Washington.
“Tech stocks feed off earnings momentum and especially upgrades to estimates,” said Mould. “The rally since last autumn has been driven by hopes that the worst is behind us in terms of earnings downgrades.”
Elevated valuations pose another question. The Nasdaq 100 trades at about 24 times estimated earnings, above its 10-year average. Both Apple and Microsoft, by far the biggest overall weights, are at premiums to the market and their own history.
From a technical perspective, the 50% retracement of the Nasdaq 100’s bear-market sell-off leaves the index on the cusp of a key resistance level, which if surpassed could trigger additional buying. However, failing to break resistance can be a bearish signal, and the narrowness of the current rally suggests a risk things could reverse unless more stocks start participating.
“It’s almost like we’re stuck between a bull market and a bear market, and we don’t yet know what will win out,” said Oppenheimer’s Wald. “Market breadth isn’t as negative as it was, but it isn’t positive, and we are missing the kind of broad participation that really confirms a breakout.”
Wald nevertheless remains optimistic about the potential for further gains, and said that if the Nasdaq 100 breaks decisively above the 50% retracement, the next area of resistance could be more than 5% above current levels.
Others agree. Given big inflows to tech stocks, “there’s a strong possibility we break through the retracement, which would be a significant milestone and could mean a significant move higher,” said Buff Dormeier, chief technical analyst at Kingsview Partners.