Executive Summary:
After the rather ridiculous run higher in July and August, during which time we saw some truly ridiculous moves in names like Tesla (NASDAQ:TSLA) and Apple (NASDAQ:AAPL) on the back of stock split announcements (which, of course, mean N-O-T-H-I-N-G), the bears finally managed to get up off the mat and get back into the game over the past three sessions. The S&P 500 has shed 7% so far during this countertrend move lower and the Nasdaq 100 has dropped an eye-opening 10.9%. While the downside action has been violent and without a clear catalyst, I can't say the move is surprising or even unwarranted. In short, things had gotten a bit silly to the upside and some sort of consolidation/correction was necessary. So, instead of a one-way street higher, we now have a ball game on our hands, where the outcome is not predetermined. And while my crystal ball is in the shop (again!), my best guess is what we're seeing now is akin to a "one step back" type move – you know after two giant steps forward.
The State of the Trend Indicators
After scoring a perfect 10.0 for a few weeks, some downside price action in the market – and the accompanying deterioration in Trend Models – was to be expected. Perhaps the most important change on the trend board is seen in the "Trading Regime" models as both the short- and intermediate-term models now suggest the uptrend has ended and a period of consolidation is upon us. From a short-term perspective, this suggests a trading approach utilizing the high and low ends of the range as turning points until a breakout occurs.
About Trend Board Indicators: The models/indicators on the trend board are designed to determine the overall technical health of the current stock market trend in terms of the short- and intermediate-term time frames.
My Take on the State of the Charts
The stock market continues to set records as the NASDAQ moved from an all-time high to the "correction" zone (defined by the media as a decline of 10% or more from the recent high) in, wait for it, three days. And while the S&P 500 isn't quite there yet, a drop of nearly 7% in three days is enough to get anybody's attention.
From my seat, the key question at this stage of the game is the pullback/correction/consolidation/pause will get worse. From a near-term perspective, you can say that the violent pullback in the high-fliers has corrected some of the excesses seen as many stocks and the major indices have now "tested" important support zones. (See below.)
S&P 500 – Daily
NASDAQ 100 – Daily
However, given the extreme overbought conditions and sentiment levels that were in place, I would not be surprised to see some additional "testing" take place in the coming days/weeks.
Of course, the bulls argue that since buying the dips in the leaders has been an exceptionally profitable strategy for a very long time, we should expect buying to come in to the leaders in short order. We shall see.
Since we had been comparing/contrasting the SPX/NASDAQ with the Russell 2000 (NYSE:IWM) for a few weeks now, I thought it would be a good idea to check in on the state of the market's "troops" since the "generals" are pulling back.
iShares Russell 2000 ETF (IWM) – Daily
As you might expect, the damage during the current pullback has been less severe here (-5.4% in the IWM). This is due to the idea that there was less "froth" in the smaller companies that need real economic growth to produce gains in earnings.
For me, the bottom line here is that companies requiring real economic improvement (as in pre-COVID levels) continue to remain stuck in a sideways range, waiting on the economy.
Next, let's check in on the state of the market's internal momentum indicators.
Ned Davis Research (NDR) as of the date of publication. Historical returns are hypothetical average annual performances calculated by NDR. Past performances do not guarantee future results or profitability.
As you would expect during a swift correction, there are some changes to note on the momentum board this week. Our Short-Term Trend and Breadth Confirm indicator and both the intermediate-term Volume and Breadth indicator have moved into the red. The good news is that while the shorter-term indicators are feeling the heat of the decline, the market's longer-term momentum has not (yet?) been impacted to any great degree.
Thought For The Day:
The stock market is a giant distraction to the business of investing.
-John Bogle