Microsoft Reversal Could Signal Greater Downside

Shares of Dow component Microsoft Corporation (MSFT) bounced with other big tech stocks following the broad-based decline but failed to break out above the Feb. 1 high, reinforcing range resistance that could signal the next stage of an intermediate correction. Market players will be watching the $91 level closely, with a breakdown exposing a volatile trip back to the Feb. 9 low.

The Nasdaq-100 rallied to a new high on March 9 while other benchmarks lagged badly, reversing this week at or below bull market highs posted in late January. It will take little selling pressure at this point for the tech-heavy index to fail the breakout and join weaker indices in range-bound action that could eventually post lower lows in a correction lasting well into the second quarter. (See also: Why a 20% Plunge in Tech Stocks Is a Buying Opportunity.)

MSFT Long-Term Chart (1999 – 2018)

A multi-year uptrend topped out near $60 in December 1999, giving way to a painful decline that relinquished nearly 40 points into the end of 2000. Microsoft stock tested that price level in 2002 and posted a double bottom reversal, but the uptick into 2006 failed to reach the .382 Fibonacci sell-off retracement level, stalling near $30. A final buying surge into 2007 ended below the 50% retracement, giving way to intense selling pressure that broke the prior lows, dumping the stock to an 11-year low in the mid-teens.

The plunge into 2009 marked a historic buying opportunity, ahead of a recovery wave that reached the 2008 high in 2013. Microsoft shares broke out into 2014, carving a strong uptrend that finally mounted the prior century's high in the fourth quarter of 2016. Buying pressure escalated through 2017, posting the most prolific gains in decades before topping out a few points below $100 in February 2018.

The stock entered a narrow rising channel in October 2016, holding within those boundaries into an October 2017 breakout that demonstrated unusual relative strength. Price action hasn't the touched the 50-week exponential moving average (EMA) since the middle of 2016, pointing to unsustainable technical conditions that could generate a steep correction. Meanwhile, the October 2017 gap between $79 and $83 remains partially unfilled, offering a magnetic target if sellers break the February low. (For more, see: Behind Microsoft's 127.4% Rise in 10 Years.)

MSFT Short-Term Chart (2017 – 2018)

A Fibonacci grid stretched across the last wave of the long-term uptrend organizes recently volatile price action, placing the .786 retracement level right at the Feb. 9 bounce. The decline tested the 50-day EMA, matching August, September and December pullbacks, but pierced the moving average by more than four points before a strong reversal. This penetration could signal a major change in character, presaging steeper downside.

The 50-day EMA has now lifted to $91, establishing a conflict zone that could test the resolve of newly minted bulls. The March 2 swing low has aligned perfectly with this support level, suggesting an ample supply of sell stops between $90 and $91. As a result, a breakdown would expose the February low, with the moving average offering resistance for the first time since the middle of 2016.  

On-balance volume (OBV) topped out in the last quarter of 2014, well below the 2007 and 2010 peaks. Committed buyers returned in the second half of 2016, but the indicator has just lifted above the prior high, even as the stock has nearly doubled in price over the same period. This signals a bearish divergence that could amplify downside pressure if the forces of mean reversion take control of intermediate price action. (See also: Why Amazon, Microsoft, Netflix Pose a Risk to Stock Market.)

The Bottom Line

Microsoft stock has reversed sharply after lifting above the Feb. 1 high, signaling a failed breakout that could mark the next stage in an intermediate correction lasting well into the second quarter. (For additional reading, check out: Microsoft to Gain on New Enterprise Buying: Bulls.)

<Disclosure: The author held no positions in the aforementioned securities at the time of publication.>