The stock market foolishly expected fireworks out of the ECB today, but all they got was lip service. This disappointment lead to today’s sell-off. We’ve given up most of last Friday’s stellar gains, but the silver lining is the market clawed back some of those losses in the last hours of trade.
So where does this leave the markets? There continues to be a bearish overtone as a large number of traders are anticipating a major sell-off due to the sagging global economy and the fiscal disaster in both the US and Europe. But if this is a widely held view, then it is already priced in the market. No doubt we could see a panic driven slide if some ruinous headline crosses the news-wire, but baring that, I expect the market will find its footing quickly given the large amount of bearish sentiment already baked in at this point. For this reason the contrarian in me continues to be bullish over the medium and long term. But the near-term volatility is a tougher nut to crack.
If the Europeans continue to play nice, we’ll see a rally into the US elections regardless of which party is polling the strongest. No matter what the partisans tell you, the market is agnostic when it comes to politics and political parties. We’ve hade massive rallies under Democrats and bone crushing crashes under Republicans. What the market really can’t stand is uncertainty, that is why the closer we get to the election, the more positive the market will be. At this point it will be able to anticipate the eventual winner and thus extrapolate the rules and regulations going forward. For example, who would have guessed the stock markets would rally after the Supreme Court shocked everyone by upholding Obamacare? Surely that was horrible and unexpected news for the market, so why didn’t the market tank? It wasn’t because the markets liked the bill, but because the market can live with the bill and knowing what to expect is far more palatable than having the health care debate reopened.
It is examples like the reaction Obamacare that confuse many investors because they can’t understand why the markets didn’t respond the way they expected them to. But this is where it is critical to understand what matters to the market when trying to make reason of the market’s rhyme. In this case, the markets hate uncertainty more than bad news, and thus the rally. No doubt the same thing could play out with the issues currently facing us. Bad news or not, the market can very easily rally simply through clarity coming from leadership in the US and Europe. Part of this will come from November’s elections.
The markets were down for the day, but the afternoon trade recovered some of those losses. An interesting trend has developed recently where the markets would plunge on bad news (Obamacare ruling, Fed inaction, ECB inaction, etc), but then quickly bounce back. The swing traders would jump on the short bandwagon as soon as the news broke and drive the market down sharply, but nearly as quik as it started, value buyers would jump in and turn the market right back around. In fact, most of these bounces turned into multi-day rallies. Will we see this same thing happen here too?
It all depends on why the value buyers were buying. Was most of the buying coming from bulls banking on the Fed and ECB cranking up the printing presses and now that their hopes have been dashed, their will to support the market has vanished? Or is the market simply too bearish already and every attempt at luering in new bears fails because everyone is already on the bear side and no one is left to sell?
Tomorrow will be a key day. If value buyers step in and support us at these levels, that will go a long way to show this market is on firm ground. But if all of the recent support was simply swing traders trying to get in ahead of a major announcement by the Fed or ECB, then that foundation will crumble as if it were built on quicksand. If the market rallies on Friday, that is a green light to start getting aggressive with leading stocks. But if the market struggles, look to close out positions as a hedge against a further move lower. We could find support at the 50dma but I wouldn’t count on it. Failing to find support at the 50dma or 200dma could easily lead to a sell-off taking us down to June’s low.
Jani Ziedins (pronounced Ya-nee) is a full-time investor and writer who has successfully traded stocks and options for more than a decade. He earned a B.S. in Mechanical Engineering from the Colorado School of Mines and an MBA and M.S. Marketing from the University of Colorado Denver. His prior professional experience includes manufacturing engineering at Fortune 500 companies, structural engineering, small business consultant, collegiate instructor, and managing investment real estate. He is now fortunate enough to trade full-time from home, affording him the luxury of spending extra time with his wife and two young children.