On a day where the major averages rallied and the FANG stocks bounced back, CNBC’s Jim Cramer wanted to track how one stock can have huge sway over the broader stock market.
That’s why the “Mad Money” host went off the charts to see how Netflix, one-fourth of Cramer’s acronym for the stocks of Facebook, Amazon, Netflix and Google, now Alphabet, weighs on the rest of the cohort and market.
So Cramer turned to Bob Moreno, the publisher of RightViewTrading.com and Cramer’s colleague at RealMoney.com, for a closer look at Netflix’s power over the Nasdaq 100.
Moreno likened it to the butterfly effect, a concept created by MIT mathematician and meteorologist Edward Lorenz in the 1960s.
“You’ve heard this before: Lorenz noticed that small changes in initial weather calculations could have gigantic effects on the final results,” Cramer said. “This is not just about the weather, Watson. It applies to any complex system, including the stock market. In short, small causes can have large effects. Hence the analogy: a butterfly flaps its wings in Asia and that little movement of air ultimately causes a hurricane on the other side of the world.”
In Moreno’s eyes, Netflix is that butterfly, and a small flap of its metaphorical wings has a much bigger impact on the overall market.
For example, over the last year, the streaming giant has outperformed the rest of the FANG stocks by far. But in the last month, Netflix has become FANG’s worst performer, dragging down Amazon and Alphabet and leaving Facebook as the only stock in the group able to rally.
“As Moreno sees it, the weakness in Netflix has been weighing on the rest of the FANG cohort,” Cramer said, turning to a chart of the Nasdaq 100 to prove his point.
Because the Nasdaq 100 is a market-cap weighted index of the 100 largest non-financial companies that trade on the Nasdaq, larger companies have a bigger effect on its trajectory.
So when shares of tech giants like Facebook and Netflix move, the index moves with them. To illustrate the difference, Moreno put the index in a red line on the above chart and an equal-weighted version of the index, where every stock counted the same, in green.
“Moreno points out that the real, market-cap weighted version of this index is about 4 percent higher than the equal-weighted version,” Cramer said. “In short, in the past, FANG stocks like Netflix have given the entire index a real boost. But that’s what he’s concerned about.”
Moreno’s worry is that, aside from Tuesday’s rally, shares of Netflix, Amazon and Alphabet have been under pressure. If those stocks can pull the Nasdaq up, they can drag it lower, too.
More specifically, if Netflix starts falling, weak-handed investors will increasingly start selling their shares. Moreno is concerned that that selling will extend to the larger technology sector, which comprises some 20 percent of the S&P 500 index.
“Obviously, Netflix alone can’t crush the whole market, but you get the point. It could it be the catalyst that starts a chain reaction of selling and sends us all reeling. This is August, stranger things have happened,” Cramer said.
Going off Netflix’s daily chart below, Moreno said that if the stock can stay above its 50-day moving average, it could postpone the weakness in tech he was expecting.
“Here’s the bottom line: the charts, as interpreted by Moreno, suggest that this market may have gotten ahead of itself,” Cramer said. “Sooner or later, he thinks there will be a day of reckoning, and some butterfly is going to take flight and hurt the whole market. It’s going to bring down some large-cap stocks. I think Moreno might be too pessimistic, but you know what? After looking at this, I figured no one’s ever gotten hurt taking a little off the table and being a little more cautious after a big up day.”