Is This The Start of The Long-Awaited Correction or Something Even Worse?

U.S. stocks sold off sharply last week, continuing the rout that began in late-September. Since the market’s peak, the SP500 fell 5.6 percent, the Dow lost 4.7 percent, and the Nasdaq Composite dropped 7.3 percent. A panoply of concerning factors combined to send jitters through the global financial markets over the past month:

  • Tightening U.S. monetary policy (the end of QE3 and upcoming Fed rate hikes)
  • The strengthening U.S. dollar (a product of Fed tightening), which slammed commodities and natural resource companies
  • Seasonal stock market weakness, October Effect, etc.
  • Less aggressive than expected ECB stimulus
  • Growth slowdown and deflation fears in Europe
  • Sluggish growth in Japan; yen rebound
  • Concerns about frothy and overstretched financial markets, U.S. market overvaluation, etc.
  • A sell-off in the U.S. high yield or “junk” bond market
  • Ebola fears
  • ISIS expansion in the Middle East
  • Upcoming U.S. mid-term elections

After publishing a detailed report this summer in which I showed that the U.S. stock market and economy are experiencing a bubble, I wrote several articles (here, here, and here) where I’ve been examining and monitoring for the possibility of a rout or correction this fall. As an agnostic regarding all short-term market movements, I have not actually been predicting an imminent correction, but simply pontificating about its chances (including the chance of a continuation of the bull market). In my September 12th piece called “Are Stocks On The Verge Of A Correction,” I showed how the stock market’s false breakout in late-August put the market on “correction watch.”

The SP500′s failed breakout above its 1,990 resistance level in late-August and September culminated in the current sell-off. There have been several high-volume distribution days over the past few months, which is often a sign of institutional selling. The SP500 is currently sitting above its key 1,900 to 1,905 support zone and its 200 day moving average, which is creating a confluence or clustering of technical support levels. The index may attempt to bounce from this support zone for a time as market participants reevaluate the situation. A break below this support zone, however, would increase the chances of further bearish action.

SPX

Beware if the SP500 forms a bearish head and shoulders pattern if the SP500 rebounds from its 1,900 to 1,905 support zone, which would correspond with the “neckline” level shown in the chart below:

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