Is the S&P500 Crashing?

After last week’s unsurprising bounce, the S&P500 resumed its decline. This time, it fell another head turning 3.4% on volume that was notably higher than the dull levels seen during the summer months. Volatility also jumped. The VIX index popped almost 7% up to the mid-20 range, which is higher than where the VIX has been hovering since 2011.

US economic news has been unimpressive over the last several weeks. And last week’s results were particularly weak. Chicago PMI missed expectations. The Dallas Fed manufacturing survey was extremely bad. ISM manufacturing also missed, as did construction spending. ADP employment disappointed; factory orders disappointed even more. Initial jobless claims came in worse than predicted. Only ISM services came in better than expected. And the big number of the week—payrolls—missed. Only 173,000 new jobs were created, rather than the 223,000 expected by economists. And the unemployment rate improved slightly, but only because 261,000 unemployed people were so disgruntled, they left the workforce and as a result are no longer counted as unemployed.

The technical damage in the S&P500 continues to build up. Last week, we highlighted the Death Cross and its significance to technical traders. Hint—not good. This week, the fact that the S&P failed to extend the bounce and moved toward re-testing the lows from the initial break in August is another bad sign for bulls. As of Friday’s close, not only were prices well below the 200 day moving average, and not only was the 50 day below the 200 day moving average, but for the first time since mid 2011, when the S&P500 last dropped 20% from peak to trough, the slope of the 200 day moving average has turned down slightly.

So at this point, the case for a drop to at least 20% becomes more convincing. And the down-sloping 200 day moving average, if this were in fact the case, will begin to act not as support, but as resistance. This means that if and when prices bounce back up to the 200 day moving average from beneath it, the 200 day will act as a ceiling. Traders will begin to use this recovery level to exit their long positions and to minimize their losses …. from peak prices. And when this happens, prices resume their fall, in a way that is exactly opposite of the way they behaved when the 200 day was upward sloping.

So the big test of this technical theory will occur when prices approach the 200 day moving average. Keep in mind that there’s a long way to go to reach this level—as of Friday’s close, the S&P would need to recover to the mid-2000’s to do this. And since Friday’s close was at 1,921, that means that the S&P could rise well over 100 points before it would test this moving average and its resistance.

Like we said, the damage to the US equity markets has become very serious…. for the first time in four years.

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