Something very different happened in the US equity markets last week. While stocks fell, they didn’t fall by their usual 0.5% or slightly more severe 1% margins…..as we’ve seen them do over the last three to four years whenever they’ve sold off. Instead, the S&P500 plunged almost 6%. And this happened to be the biggest loss, in percentage terms, since 2011….or four years. Volatility exploded, but surprisingly volume did not jump all that much, which suggests that average investors were not running for the exits. At least not yet.
But the massive jump in volatility does suggest that there was some panic in the markets. Instead, it appears that most of this panic was felt by professional investors and traders. And that’s a problem, because significant—or tradable—bottoms in stock markets usually occur when retail investors start to panic and sell in large numbers, booking losses, just to get out at any price and prevent further losses.
This is called a capitulation bottom, and it most certainly has not happened. So what? Well that means that there’s a big risk that additional, future selling may add to the already painful losses suffered last week. And typically, such follow-on selling occurs fairly quickly after the initial lurch downward.
Could we see a knee-jerk bounce this week? Of course. But many pros will use this bounce to get out, and if retail investors do the buying, as they often do, they will be the ones left holding the bag when this additional, follow-on selling occurs.
We’ll know which way the stock markets turn within a week or two.
In the meantime, the technical picture has suddenly changed dramatically. From a slowing eroding, distribution pattern, a lot of technical damage has just been registered. First, Friday’s close left the S&P well below the 200 day moving average. That said, the 50 day moving average has still not crossed below the 200 day. Unfortunately for technical bulls, the magnitude of last week’s drop means that even if the S&P does nothing this week, the 50 day will continue to converge with the 200 day and is very likely to cross below anyway.
So as the retail world suddenly begins to follow the US stock market more closely through front-page stories around the country, the professional technical traders will also begin to dust off their sell buttons, something most of these traders have used only sparingly over the last four years. If the Death Cross does happen, then even more technical selling will be sure to follow.