Thursday, May 6, 2010

Equities: "Market In Correction. Now What? "

The Dow Jones Industrials are trading down 104 at 10763, the S&P 500 is at 1153, down 12.
Following up on yesterday's "IBD DOWNGRADES MARKET OUTLOOK" which itself was a followup to Tuesday's "Equities: Anybody Else Watching the Distribution? ($SPX; SPY)" Here's a Q&A with Investors Business Daily's Executive editor Chris Gessel:

IBD: Over the last week, we’ve seen the current outlook in The Big Picture change from “Market in confirmed rally” to “Uptrend under pressure” (on April 27) to “Market in correction” (on May 4). What prompted those changes?

Chris Gessel: On April 27, we changed the outlook to “Uptrend under pressure” because the Nasdaq, specifically, had its third distribution day. Plus, leading stocks came under pressure and were selling off harder in heavier volume than they had before that day.

On May 4, a week after we started raising those warning flags, the market sold off extremely hard, and the Nasdaq added a fourth distribution day. And, again, leading stocks took a hit, and you could see that in the IBD 100 list, down 3.2% on Tuesday. That changed the outlook from “Uptrend under pressure” to “Market in correction.”

The action on May 4 was a good example of why you want to switch from offense to defense when distribution days start to mount. Even before the market officially fell into a correction, the rising number of distribution days warned you that big investors were starting to sell. That told you to proceed with caution, and be ready to cut losses and protect your gains.

Seeing the Market Cycle in the Bigger Context

IBD: Let's step back for a minute and look at the bigger context. We entered a new bull market in March 2009, so we're currently about 14 months into that cycle. Now, as of May 4, we’ve entered a correction. While no one knows if this will be an interim correction or something more severe, what should people keep in mind about what stage in the cycle we're in?

CG: We've done a study of major bull markets going back over 100 years. We looked at how much they rebounded off the bottom, how much they corrected, then how high their second wave up was.

In terms of the current cycle, we had a huge bounce off the bottom, starting in March of last year, as you can see in the graph below. Then in January of this year, we had what turned out to be a very small correction on the Nasdaq — about 9.7%.

So it wouldn’t be unwarranted for us to get another 10%, or maybe even a 15% correction now, and then have the market turn around and run higher. Historically, that would be normal....MORE