Netflix (NFLX) Back in Rally Mode After Brief Correction

Netflix, Inc. (NFLX) stock lifted off a five-week basing pattern in the $490s on Wednesday, jumping nearly 12% before closing the session less than 30 points below July 13's all-time high at $575. The buying spree marks an end to a correction that accelerated with a sell-the-news reaction to second quarter earnings on July 17. The stage is now set for a test of the high and possible resumption of the streaming giant's strong uptrend.

Shareholders grew more defensive in July after the company warned about lower growth in the second half of 2020, posting third quarter new subscriber guidance of just 2.5 million. Some big investors sold the stock after the news, with hedge funds run by Stanley Druckenmiller and David Tepper decreasing position size. However, guidance looks conservative due to continued hibernation by older Americans who are less subscribed to the service than Millennials or Gen-Xers.

Wall Street consensus highlights growing conflict about the long-term outlook, with a "Moderate Buy" rating based upon 20 "Buy," 9 "Hold," and an out-sized 5 "Sell" recommendations. Price targets currently range from a low of just $220 to a Street-high $625, while Netflix opened Thursday's session about $18 above the median $519 target. These rankings seem chiseled in stone until the company delivers updated guidance or reports third quarter results on Oct. 14.

Netflix Long-Term Chart (log scale) (2008 – 2020)

The stock tested the 2004 high at $5.68 in April 2008 and sold off, and in October, it posted the second higher low since 2005. That set the stage for a 2009 breakout that lifted the stock into market leadership at the start of the new decade. The initial rally wave topped out at $43.54 in 2011, ahead of a deep dip that tested the breakout level successfully in 2012. It broke out once again in 2013, entering a rising channel that held intact for six years.

Price action settled into a broad consolidation in the third quarter of 2018, carving higher lows and horizontal highs into an April 2020 range breakout that reached 2018 resistance a few weeks later. It completed a breakout to new highs in June, posting July's all-time high at $575.37 ahead of the third quarter report. The selloff into August held within a small rising channel, indicating that the long-term uptrend remains fully intact.

Netflix Short-Term Chart (2018 – 2020)

The on-balance volume (OBV) accumulation-distribution indicator has carved a surprisingly weak pattern that could signal trouble for shareholders. OBV posted an all-time high in June 2018 and entered a distribution wave that ended at an 11-month low in December. Subsequent accumulation matched price action into April 2020, when the stock broke multiple resistance levels and traded to an all-time high. The indicator just "sat there" during this period, exhibiting little or no sustained buying interest.

This marks an extremely bearish divergence that often foretells a change in trend, but Netflix downside has been fully contained in recent months, bringing the indicator's reliability into question. It's possible that short selling was so intense in the first quarter that second quarter short covering doesn't reflect true buying power. In any case, it's something to watch in coming months, especially if OBV drops through the lower blue line.

The Bottom Line

Netflix shares charged higher on Wednesday and could now test the bull market high, but traders should keep one eye on accumulation readings, which have failed to match constructive price action.

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