In theory, Monday starts the best six weeks of Q4 for the markets.

In practice, we may get something entirely different. Market sentiment is fading and we are reaching critical levels. That could mean we are about to see the market accelerate to the downside OR it simply represents the normal early October buying opportunity that fund managers expect.

Don't you love it when an analyst says the market could go up or it could go down? That is like the weatherman saying we have a 50% chance of either sunshine or rain.

The problem is that the current market setup is exactly that, a chance of a further decline or a setup for a strong rebound. However, in this case the technicals are suggesting further weakness.

The percentage of S&P-500 stocks that are currently over their 50-day average has declined to only 29% and a four-month low. That means the majority of stocks are in a declining pattern ahead of earnings. The percentage over their longer 200-day average has fallen to 64.2% and a four-month low.

If we use these charts as oscillators we can see that the market rebounded when the 50-day percentage was at 22% in July and 53% on the 200-day chart. That would suggest we were getting close to a potential rebound point.

However, the prior three declines were significantly lower at 10% and 20% respectively. So which is it this time? Are we going to bounce at the higher level or should we expect the market to turn sharply lower before we see a rebound?



If we compare the charts above to a similar chart of the S&P the outlook should become clearer. The last time the sentiment numbers were headed lower the S&P was testing 2,000. While I do not want to see a retest of 2,000 it is much more preferable than the prior two declines where the percentage charts were in the 10% and 20% range. That was back in January/February and the S&P was at 1,810. There is no currently discussed scenario where the S&P falls back to 1,810. Is it possible? Yes. Is it probable? No. The current earnings may be in decline but they support a much higher valuation than 1,810.

What this chart suggests is that a break below 2,120 would immediately target a return to 2,000. That would not be pleasant but it would be preferable to the other downside target.


If we expand the scale slightly, it shows the potential break at 2,120 and how critical that support is today. All the indicators are negative and the S&P has closed under the 100-day average for four consecutive days. Every day that happens, it enforces the average as stronger resistance.


The biggest drag on the market remains the biotech sector. The $BTK is in free fall after breaking support at 3,250. The next material support is 2,860. The indicators are buried at the low end of the scale and normally we would be looking for an oversold bounce. However, the political attacks on the drug companies and pricing are not likely to let up in the next three weeks. Bernie Sanders and Clinton saw how effective the tweet was on Friday in crashing the stocks of those evil drug companies and they are likely to keep up the comments. I thought we were going to get that bounce on Friday but the tweet reinforced the negative direction.


The cumulative advance/decline line on the S&P is about to fall to three month lows. This is similar to the sentiment charts above but it is actually showing slightly more strength. It is right on the edge of turning negative and should be watched.


While Monday starts the best six weeks of the quarter in normal years, this is far from a normal year. Fund managers would normally be buying this dip as they window dress their portfolios for the October 31st fiscal year end. With the election so crazy and the tide shifting rapidly towards Clinton, they may be rethinking their investments. If it appears Clinton is going to win and possible carry the senate and the house as well, then biotech and energy stocks would be kicked to the curb and that comprises a large portion of the market.

With just over three weeks left until the election, the majority of fund managers are probably scratching their heads on what to buy and what to sell. There may be a contingent of managers that elect to raise cash levels until the election is over and the carnage in the equity markets has faded. This is a very uncertain time for equities.

Because of the fiscal year end, managers could throw caution to the wind and load up on large cap techs over the next two weeks and then restructure their portfolios in mid November after the election results. That is the wild card in the potential for a market decline. The indexes are at three-month lows and that is either a buying opportunity over the next two months or a warning of a pending breakdown on election fears. There is no easy answer for market direction today.

Enter passively and exit aggressively!

Jim Brown

Send Jim an email