Stocks falter at the 'Obama high'
Decline marked the apex of positive political sentiment reached on Election Day last year.
Although stocks are tracking higher during trading on Tuesday, they have only retraced half of Monday's losses. To recap, stocks tripped at the opening bell on Monday and laid flat on their face the rest of the day as a global wave of selling that started with declines in Asia and Europe flooded ashore in Manhattan. As a result, the major indices fell out of their August trading ranges.
Technically, the decline happened right on schedule as the market reached the so-called ''Obama high''; which marked the apex of positive political sentiment reached on Election Day last year. Prior to that point, the S&P 500 had slid as low as 850. Then, it reversed and moved over the 1,000 level before finally succumbing to another wave of selling pressure in late November.
The top last week was 1,014, which was also a picture-perfect 38.2% Fibonacci retracement of the October 2007 high to the March 2009 low. I talk a lot about Fibonacci levels and how ratios that occur with great frequency in nature are often reflected in the behavior of stock prices. To many, this probably seems like metaphysical hooey. And maybe it is. But if enough professional traders are using the same set of trading rules, the indicators will still be meaningful simply because so many people are using them.
The evidence continues to suggest that the broad market may well be in the early stages of a bull cycle. But that doesn't provide immunity from periodic selling spasms. In this case, there are a number of developments that lead me to believe that the bears aren't done yet.
For one, we saw some significant weakening among shares of industrial firms. These stocks, which include General Electric (GE), Boeing (BA), and Caterpillar (CAT), are harder to manipulate and tend to filter out some of the speculative excesses that plague bank, technology, or housing-related stocks. The fact that they declined so hard is a sign that the selling pressure is genuine and it's intense.
According to the market experts at Lowry's, Monday's action represented a 90% down day -- with down volume representing 94% of the total volume on the NYSE. This is the first 90% down day since the middle of June, which marked beginning of a market swoon that saw the S&P 500 lose nearly 8%. Typically, in the wake of the 90% down day, we see a rally lasting two to five days as the bears re-arm and plan their next strike. Many short-term indicators are still flashing overbought, so it's unlikely we've seen the last of the decline.
We also saw a huge 14.9% increase in the CBOE Volatility Index ($VIX.X), which is the largest one-day change since the middle of April. The VIX, as you know, is derived from S&P 500 options trading in Chicago and is a proxy for the level of fear and uncertainty felt in the equities market. After declining 51% since the March low, mirroring the 47% decline in the S&P 500 through last Friday, the VIX has now moved back to early-July levels. This could be signaling the beginning of a new period of acute risk aversion -- another potential negative for stocks.
From here, I expect to see a retest of the neckline of the inverted head-and-shoulders pattern has developed in the past 10 months. If the pattern holds, the decline would be limited to the 940 to 955 level on the S&P 500 -- about 4% lower than Monday's close. If this level breaks down, bears would aim at the July lows around 880.
Disclosure: The author does not own or control a position in any of the funds or companies mentioned.
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