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Another Triple Digit Loss for the Dow


Double Click the chart above for a view that is not distorted

A big loss in the markets today as investors have begun to worry about international crises (protests in Hong Kong, Russia cutting off the natural gas supply to Europe, ISIS), the potential for falling corporate earnings, rising interest rates, a slowing US economy, a near-recessionary European economy, a continuing slow Chinese economy, and Ebola in Texas.

All of that, combined with it now being October – the month when most crashes seem to occur – has spooked investors who are selling shares of stock and raising cash. As most of you know that have been reading this blog over the past four weeks or so, we raised roughly 5% cash in client accounts back when the S&P was trading at record highs. I’ve explained our logic in previous posts, so I won’t bore you with that, but now that we have a roughly 4% correction in the S&P 500 under our belts I thought it would be instructive to see what the market is telling us.

So, lets look at the graph above in detail, from top to bottom:

> The Relative Strength Indicator (RSI) has dipped below the 30 level, indicating that on a short term basis, we are nearing an oversold point and are due for a bounce higher

> The purple area graph is showing you that the S&P 500 has gained about 14% over the trailing 12 months – well above the S&P 500’s historic average return of 8.98% since the beginning of 1957 when the index was created. Under the theory of mean revision, a bit of a pullback is not out of the question.

> The pink area graph is showing you that the S&P 500 has underperformed the NASDAQ Index by about 1% over the past year. Indicating that as we move into this correction, NASDAQ Index will likely go down more than the S&P 500 Index.

> The price graph for the S&P 500 Index shows us that over the past year, we have had four previous instances where the index has dropped to the 100 day moving average (the pink dotted line), closed below it, then moved higher – and no instances where it has dropped all the way to the 200 day moving average (the solid green line). We are due for a trip to the 200-day moving average – the market will tell us if that will be this time or not.

> The Volume bars show that on recent sell-off days, volume is above its moving average (the thin blue line). The black line above the volume bars is an indicator of supply and demand, and it shows that demand is waning.

> The turquoise area chart is a money flow indicator and it shows that money is flowing out of the market. The accumulation/distribution line above it (the black line) confirms this indicator as it is heading down as well.

> We next have two short-term indicators of market direction (Full Stochastics and Commodity Channel Index). Both indicate that on a short term basis, the market has moved down too fast and is due for some of the selling pressure to subside and the market to bounce higher – confirming the reading of the Relative Strength Indicator.

> And finally we have the two intermediate term indicators of market direction (the Moving Average Convergence Divergence indicator and the Know Sure Thing indicator). Both of these show that on an intermediate term basis, the market is in a downtrend. These can turn higher if we get a few days where the selling pressure subsides, but as of right now, they are saying to be careful of any move higher because it is just selling relief and not a change in intermediate term trends.

To give you a feel for how tough it was over the past couple of days in the market, take a look at this Market Capet:

The purpose of the Market Carpet is to give you a visual feel for what is happening in the market. This one shows you what is happening in the S&P 500 – you can see that predominantly the market is red with only a small section being green. That one quadrant that is green is made up primarily of utility stocks with a couple of companies with specific good news thrown in. That is an indicator of an unhealthy market and also goes along to support the intermediate indicators discussed above.

All in all, this is what we had a feeling about when we raised cash. The market had not made any sort of major move down in a very long time, corporate earnings had started softening, geopolitical news was negative, and October was on the horizon. We are very fortunate to have raised cash so that our clients won’t be hurt by this correction. When our indicators show we have bottomed, we will begin to buy our favored companies at prices well below where they were trading a couple weeks ago so that over the long term, our clients will benefit from this pullback.