I wrote those words in one of the trading discords I contribute to, back on October 31st.
And we saw exactly what I had in mind, (when I said that) yesterday as the market reacted to the final FOMC meeting of the year.
The Fed cut US interest rates by- 0.25% on Wednesday which should have pleased traders.
However, the market is forward looking and so it was more concerned about what was to come, than what had just happened
And it was a marginal, but significant change in the perceived pace of future interest rate cuts, that upset the apple cart.
We can get a sense of the way sentiment turned by looking at the chart of the VIX index, which is often said to be a barometer of fear and greed among investors and traders.
When the VIX rises in value the market is said to be fearful.
Source:Google Finance
Well the VIX bounced by +74.0% yesterday, so I think we can say that there was fear on the street.
What’s more we saw a near -50% fall in the percentage of S&P 500 stocks that are trading above their 50-day Moving Average, which now stands at less than 20%.
Looking back over the last week a pattern was discernible in this data.
We’ve had 5 straight days of declines in this indicator and each day the size of the decline has increased. The series runs as follows -3.0%, -4.0%, -9.0% , -12.0% and finally -49.0%. A classic example of gathering (downside) momentum.
Source:Barchart.com
Just 14 stocks in the S&P 500 finished Wednesday in positive territory, many of these hailed from one oversold sector namely Healthcare.
There were more than 3700 new 5-day lows posted across the US equity markets on Wednesday and just 686 new 5 day highs.
A ratio of more than 6:1 in favour of the sell side, some 95% of stocks listed on the NYSE declined on the day. Nasdaq listed stocks fared slightly better with just 87.0% of these declining in price.
So what changed?
A good question, because after all the Fed cut US interest rates by 25 basis points which was what the market wanted, right?
However, it didn’t want to hear hawkish comments from Jerome Powell, which suggested that inflation was still lurking in the background, and that there was an element of policy uncertainty, and whilst that was the case, it was appropriate to slow down.
Which in layman's terms means - we don’t know what's ahead, so we are going to drive cautiously until we can get a better idea of just how good the road is.
The market wanted a motorway that is speedy and smooth and well lit.
Jay Powell and his colleagues think the road ahead is more like a country track, bumpy and uneven, often with limited visibility.
What comes next ?
Well that will depend on how quickly positive sentiment can be rebuilt, if at all. I say that because we are a few days away from Christmas, an extended holiday and the end of the trading year for many market participants.
We can see which sectors were hit the hardest in yesterday’s sell off and the price action across the board, which is displayed by the sliders, on the right hand side of the table below.
The biggest fallers were sectors that have been leading the market of late.
For example, Communications services and Consumer Discretionary. However,no sector escaped unscathed and the fact that all 11 S&P 500 sectors finished at or very close to thee days lows tells you that there was little attempt, or ability to cover sales into the close, and that the bulls or buyers were nowhere to be seen.
Source:Barchart.com
When you think about the narratives that have driven the market in recent days and weeks you can instantly understand why some of these gains were unwound so quickly.
For example here is Alphabet inc owner of Google, which rallied over the last week or so on news of new high speed quantum computer chip. Impressive as that story was, it was one that offered little or no immediate commercial benefit to Alphabet’s business, and yet the stock price rallied by around +13.0% over the last 10-days.
Source:Barchart.com
Alternatively we could look at Broadcom which rallied by +40% and joined the trillion dollar market cap club, after it reported upbeat earnings and guidance much of the latter related to the company’s expectations about artificial intelligence.
Source:Barchart.com
In both cases there was an element of “jam tomorrow” about each of these stories.
Was Broadcom’s higher guidance more tangible than Alphabet’s Willow Quantum chip?
Well, Alphabet has made the chip and it works, though only in a lab, isolated from the outside world, at temperatures close to absolute zero.
Broadcom is predicting a huge upswing in AI related revenues, but they have to be delivered and as we have seen of late it’s easy for the biggest growth stocks to disappoint when they are priced for perfection.
Time will tell which was the more important of these announcements.
However, what we can see straight away is how many loose holders there were of each stock. I say loose because if they were tightly held then would the stocks have sold off as much, as quickly as they did?
Indicators of a rally in confidence
Obviously we can’t overlook the role of ETFs and other index trackers, which were likely to have been net sellers of the mega cap stocks, as the indices turned red so there was something of a self fulfilling prophecy here.
However, the point I really want to make here is that momentum works very well on the downside.
In fact if we are honest about it fear is a more powerful emotion than greed, or at least it can take hold more quickly.
The way to tell if trader confidence is being repaired will be to watch the ongoing performance of the VIX index.
Will iit move back into retreat and if it does move lower, how quickly will it move back below say 20.0.
We can also get a reading on how traders are feeling by watching the MA percentage data.
As we can see in the heat map below,the left hand side of the table is a sea of red and pretty much every value in the 5-day MA column is at an oversold level from which it could bounce.
Source:Barchart.com
However the damage extends way beyond the short term and we will need to see medium term measures, the 20 and 50 day MA percentages turn green.
None of this is impossible, but I wonder what the drivers or incentives for the bulls might be this side of the holidays, the year end and President Trump's inauguration?.
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