Why Fibonacci Levels Matter for the S&P Right Now
When it comes to individual stocks, I generally favor fundamental analysis over technical. It should be obvious that things like the prospects for the economy, the quality and popularity of a company’s products, and the effectiveness of its management team matter far more to the future price of a stock than does its price history, but there are still people that base their investing decisions on lines drawn on a chart. That isn’t to say that technical analysis has no place in an investor’s toolbox. It is useful for setting parameters to a trade, deciding where you will sell for a loss or take a profit, and sometimes for analyzing the prospects of the overall market as represented by an index.
Obviously, index performance is predominantly influenced by the health of and prospects for the economy as well but, as I have pointed out on many occasions before, the mood of traders and investors matters too. Economic news may be a series of data points, but they are data points that are open to interpretation, and how they are interpreted depends on mood. This morning’s rate hike by the ECB, for example, could be seen as good for stocks here on the basis that it offsets the Fed’s similar hikes and levels the playing field internationally. Or it could be seen as yet more global pressure on growth, and therefore a negative.
It looks right now as if traders are favoring the latter view of both that news and a mixed bag of numbers in the weekly jobs report, and a technical analysis of the S&P 500 since the low in June may help to understand why that is so, and also why it is potentially very significant. Here is the chart for that time, with the addition of Fibonacci retracement levels.
Of all of the common “lines on a chart” analyses, Fibonacci retracement analysis is perhaps the most esoteric and therefore, given my reasons for not relying on technicals, you would think I would consider it to be the least influential. It is based on an ancient mathematical observation concerning the relationships between prime numbers so should not, in theory, have the slightest impact on the pricing of equities. In practice, though, it does, for two reasons.
First, it does matter because traders do pay attention to it, and it becomes a self-fulfilling prophecy. If enough people identify a level as significant, and place orders based on that, the level becomes a point of support or resistance, simply because of the weight of orders. Second it is a kind of shorthand for the way markets tend to move because of human nature. They don’t move in straight lines. Moves in any direction involve retracements because, as human beings, traders and investors always look to oppose trends. Given that they happen naturally then, it is useful to have levels that show where those retracements might end. If those levels hold, great, but if they are broken, maybe it isn’t a retracement at all.
Look again at the chart above and you will see that the S&P 500 bounced off the June 17 low to a high of 4325.28 on August 16, then started to retrace. That retracement seems to have ended two days ago, right around the 61.8% level, a very significant number in Fibonacci analysis. If that level holds, then what we are seeing is just that, a retracement of a move up, and we can expect to break above that 4325.28 high before too long. If, on the other hand, it doesn’t, then the move down is a reversal, and we will challenge the lows again soon.
As it stands, because of the negative reaction to ambiguous news this morning, the second scenario looks more likely. However, if we don’t get back through the 61.8% retracement level, that will change the outlook and therefore the mood of the market. While fundamental conditions will have the biggest impact on stocks in the longer term, the direction for the next few weeks may depend on the accuracy and significance of the observations of a twelfth century Italian mathematician more than on cold, hard facts.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
Martin Tillier
Martin Tillier spent years working in the Foreign Exchange market, which required an in-depth understanding of both the world’s markets and psychology and techniques of traders. In 2002, Martin left the markets, moved to the U.S., and opened a successful wine store, but the lure of the financial world proved too strong, leading Martin to join a major firm as financial advisor.
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