Bear Markets 101: Where This Grizzly Market Is Headed Next
by Jim Stanton, Technical & Quantitative Analyst, Smart Profits Report
Last Friday’s rollercoaster action, with the Dow Industrials swinging wildly from negative to positive, and back down again to end the day down 128 points, capped off one of the worst weeks in U.S. stock market history.
That gave the blue chips an 8-day loss of just under 2,400 - or 22.1%. To put it in perspective, the S&P 500 - the broader indicator that market pros prefer to use as a gauge - posted its worst weekly performance since 1933.
Ouch!
So where the heck do we go from here?
A Brief Bear History
Both the S&P 500 and the Dow have dropped over 40% since making new all-time highs last October. Below, you can see a recap of S&P bear markets since 1970. Because it’s fallen 46% from its peak this time around, it easily takes third place for worst recent history performance.
Out of the seven, the longest bear market was the March 2000 bear market, which lasted a total of 30 months. In contrast, the shortest only made it 3 months.
But the odds are against any shorter trends, since only three of the above-listed bear markets lasted 3 to 3½ months. The other four made it to the 18-month point or longer.
One of the more interesting points to note is that over half of them ended in the month of October. Is this significant? Only time will tell this time around.
Up Close And Personal With Today’s Bear
In celebrating its one-year anniversary recently, this bear market has long outlasted the three shorter ones. And in that time span, there hasn’t been a single sector spared.
A rollercoaster ride worthy of any major amusement park, for sure. But kid-friendly, this one ain’t. There have been a couple of days over the past two weeks when it appeared the markets had made a climatic low, only to see the sellers regain control later on in the afternoon.
Last Friday, was different though…
- From high to low, the Dow made a 1,000-point swing.
- The equity put/call ratio closed over 100% for the second day in a row.
- The Volatility Index (^VIX) - commonly referred to as the fear index - reached a record high level of 76.94.
- In addition, the Dow Transports, Nasdaq Composite, and all the smaller-cap indexes closed higher for the day, with the Russell 2000 closing more than 4.5% higher.
This type of action is usually associated with at least a short-term low and since we’re in the month of October, the odds of this occurring are raised a bit.
Volatility has raced to such highs recently that it will take a substantial rally in order to trigger daily buy signals. And there are a couple of indexes that could tip us off that the indexes bottomed out last week.
The Charts Will Show Us Where The Market Is Headed Next
One of the numbers I always keep a close eye on is the point spread between the Nasdaq 100 and S&P 500. That’s because during bull markets, the Nasdaq 100 usually outperforms the S&P 500 (on a point basis) - something that began happening last week. Below is a daily spread chart of the Nasdaq 100 minus the S&P 500, which includes last Friday.
The high point on the chart was the last swing high for both indexes, which occurred in the middle of August. As you can see, the spread dropped as these indexes sold off, losing 365 points in the process.
Despite all the indexes hitting their recent lows last Friday, the spread began improving after Wednesday’s open and closed higher for the last three days of the week.
I’ve drawn a regression channel from the August highs, with the upper band hovering around the 400 level. The high on Friday, October 3, was 400.89, so a couple of closes above 401 would be a positive sign for the indexes.
If you don’t have a chart program that can generate spread charts, you can do the calculation after the markets close. Simply subtract the cash value of the S&P 500 from the cash value of Nasdaq 100.
If the markets turn higher and you want to trade this spread, the ratio is 2.85:1 if using the ETFs that represent the S&P 500 and Nasdaq 100 respectively - the SPDR Trust (AMEX: SPY) and PowerShares QQQ Trust (Nasdaq: QQQQ).
That means for every SPY share you short; you’d have to buy 2.85 shares of QQQQ. For e-mini traders, you’d buy five Nasdaq 100 contracts and simultaneously sell short two S&P contracts.
That’s all for this edition.
Jim
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One Response to “Bear Markets 101: Where This Grizzly Market Is Headed Next”
[...] Keep in mind, though, that nobody can tell for sure whether the worst of this recession is priced into the markets or not. So while it’s important to remember that things are eventually going to look better, we don’t yet know whether they’ll get worse first. For more insight, read Bear Markets 101: Where This Grizzly Market Is Headed Next. [...]