Analyzing market sell-offs and the likelihood of a 5% correction turning into a 10% correction | Wilnesh News
From sustained gains to sustained pullbacks, five straight months of gains without falling 2% were followed by three straight weeks of losses, including a rare six-day losing streak for the S&P 500, and five straight intraday rebound failures last week. Like all market contractions from all-time highs, the S&P 500’s current 5.5% drop comes with a host of proximate causes, ready excuses and believable cover stories – beyond the simple “we should” catch-all . . Sticky inflation and a patient Fed theme have pushed the 10-year Treasury yield from 4.2% to over 4.6% in three weeks, while expectations of a potential rate cut have been pushed beyond traders’ time horizons. The typical seasonal headwinds begin in April of an election year, apparently on time after a strong first quarter. Unstoppable geopolitical conflict doesn’t help, even if it rarely becomes a key mover in market trends. .SPX 1Y Mountain S&P 500, 1 Year Then, rising valuations and excessive optimism accumulated over a 5-month period, rising 28% and peaking in late March. The dominant momentum leadership that marked the breakout pace a few weeks ago (and previewed here as it peaked) continues to relax, a self-reinforcing process in the short term. The dangerous rotation out of large-cap tech stocks and into less favored value stocks (semis down 4%, regional banks up 3%) was particularly evident on Friday and appears to be part of an ongoing reversal of extreme positioning within systemic trend-following strategies. Heading into 2024, the market’s most crowded stocks also happen to be among the largest and most expensive stocks in the world, with people placing a huge premium on the predictability and scarcity value of strong long-term growth stocks. This brings us to the moment present in all pullbacks, where the question is whether the broader market has extended its downtrend long enough to expect at least a strong rebound. Is the bounce coming? Things are at least starting to move in that direction. The Nasdaq doubled in a tough test, falling nearly 8% from recent highs, falling below its old November 2021 high and below its 100-day moving average. In the process, it became quite oversold, with its 14-day relative strength reading (a measure of price relative to the long-term trend) very close to levels near past trading lows. Some market breadth readings (e.g., a lower percentage of S&P 500 stocks trading above the 20-day moving average), increased put volume, and an inversion of the Volatility Index (VIX) relative to VIX futures prices similarly suggest a tight The coiled market will soon see a high-speed rebound attempt. This is where it’s important to note: extreme situations always get more extreme, severe liquidation sell-offs often start with oversold readings, and there are always pressure trading mechanisms among quantitative players that can intensify when they take risks Callback – reduction mode. Nothing works every time, and these types of oversold indicators aren’t always timely when it comes to predictability. Arguably, the decline so far has been a little too orderly, at least until Friday’s violent purge in the semifinals. While trader sentiment indicators are showing increasing caution, most sentiment indicators are just moving away from overly bullish conditions and have yet to enter outright fear mode. Over long periods of time, approximately 40% of all 5% market retracements deepen into full 10% retracements. Warren Pies, co-founder of 3Fourteen Research, said that after the global financial crisis, “the odds of buying the 5% dip…have improved.” From 2009 to 2021, the 5% dip was a “consistent winner.” On average, markets recover to new highs within three months of a 5% decline, and “only 35% of the time a 10% correction continues.” However, Pease backed away from his previous bullish market view on Thursday, noting that the pattern could shift again from 2022, with an upward trend in Treasury yields helping to drive a stock market correction rather than the previous decline in yields. pattern, as stock market declines acted as a buffer, causing most 5% losses to worsen into 10% losses. While obviously true, it’s important to note that yields don’t have to retrace all the way back to where they were before stocks corrected for stocks to find relief. They just need to stop rising and calm down a bit. Remember, since 2022, equity investors have worried that 3%, 3.5%, 4%, and now possibly 4.6% 10-year yields will be kryptonite for stocks. However, under the right conditions, stocks can make a temporary peace with them once the economy shows it can absorb such yields. If the S&P 500 retraces around 10% from its high of 5,254, the index will fall below 4,800 (its all-time high since early 2022) and thus will be a test of the first-quarter breakout. (In 2013, after the S&P 500 hit its first all-time high in more than five years, it doubled within months, briefly tested its previous record, and then resumed its advance.) Remember, when stocks rise This is useful when A week ago, I noted that the S&P had closed at the exact level it had been since March 8, the moment when “we can have it all” sentiment peaked and Fed Chairman Jerome Powell hinted at a rate cut soon on the 7th , and just now – the day’s employment report was strong enough to highlight the economy’s resilience, and buying in artificial intelligence stocks gradually increased. Last week’s 3% drop brought the index back to February 21, closing the “Nvidia gap,” a 100-point gain for the S&P 500 the day after Nvidia released its blowout fourth-quarter earnings report. Nvidia shares themselves closed slightly higher than where they were on February 22, but the P/E ratio fell a few points due to rising profit forecasts (currently expected P/E ratio is 29x, compared with 31.5x at the time). Valuation Check As for the broader market, the S&P 500’s forward price-to-earnings ratio fell to 20 times from 21 times a month ago, with no one defining it as cheap, although the equal-weighted index still trades at a significant discount to the broader index. Betting on the broader stock sector doing well relative to the dominant market caps of $1 trillion and above has been tricky, in part because of rising bond yields, which have stifled any moves to expand investments recently. Cash-rich, long-term growth large-cap stocks have not only adapted to higher financing costs but are often considered resilient to macro changes. Not to mention Big Tech dominates the earnings momentum scoreboard, with profits revised upwards sharply in recent quarters. U.S. Treasury yields took a breather on Friday as recent items probed the threshold of economic pain, with energy and traditional defensive stocks as well as financials among the main leaders. Whether this reflects a healthy rotation due to economic resilience or more of an erratic exodus of fast pros from a crowded betting field is a question to keep in mind next week. Regional banks rose 3% on Friday, four quarters removed from a mini-crisis at Silicon Valley banks, with credit and deposit stress now looking manageable and the stocks as a group trading at just the book value of most banks. 90%. Next week will see the release of the personal consumption expenditures report, which will signal the market’s inflation relative to the Fed’s target, and given that the market has turned to a resilient consumer and higher expectations, the market may once again become less hawkish. Change of direction. Longer interest rate assumptions. From a trading perspective, aside from oversold numbers starting to accumulate, the pullback appears to at least help clear out positive positions and cool investor expectations in time for one of the heaviest weeks of earnings reports for large-cap stocks.
