Sunday, October 19, 2014

Is The Selloff Over?

Last week, the market volatility continues to increase. On Wednesday October 15, 2014 the DJIA dropped more than 360 points within the first 10 minutes of trading (Figure 1). After a brief bounce off the opening low, the market resumes its selloff and incurred more than 460 points of losses in the DJIA shortly after the FED released its beige book. During this time period, the selling pressure has reached extreme level where the up volume-down volume ratio went to 10-to-1 favoring the down volume, and the advance-decline ratio also exceeded 10-to-1 favoring the declining issues. When such an extremity is reached by the market, it usually indicates indiscriminate selling or some form of capitulation. What triggered the opening bell and early afternoon sell off is unknown at this time.

Figure 1:
(click on the chart to enlarge)


By looking at the TLT (Figure 2), the ETF for the long term Treasury bond one can speculate there was some form of forced liquidation of equities to cover a massive loss from a huge short position on the long term Treasury bond. The price of the TLT spiked up at the same time as the market sold off at the opening bell with heavy volume, then the price retreated immediately after the heavy buying on the TLT. This looks like a footprint of a forced short covering. After the FED released its beige book with a dovish underlie tone, it created a small climactic short covering on the long term treasury for the day and the market started to reverse, and ended the trading session well above the day’s low.

Figure 2:


Ever since the turning point on 9/19/2014, the SP500 has given up 198.6 points or 9.8%, and the DJIA loss 1637.86 points or 9.4%. Prior to October 15, 2014, the market appears to be readied for a potential bounce, and one of the levels that could trigger a bounce was near 1872 on the SP500. It turns out the bounce on 10/14/2014 did not trigger a sustainable bounce, instead the selloff on 10/15/2014 might have been the trigger as the SP500 attempts to rally back up above 1897 level. If this relief rally continues, one possible scenario is a retracement back up to the level near 1920 for the SP500 in the near term (Figure 3).

Figure 3:


As the result from the extreme selloff on 10/15/2014, the market breadth has show some improvements from the recent carnage along with some divergence amongst indices. The improvements could be a sign of a short term reversal but it is not enough to conclude the current downtrend has ended. More evidences of improving market breadth are needed before one can conclude the recent selloff is over.

The market is still in a highly volatile state. Until the market has established a basing pattern, it is still prudent to remain on the sideline unless you are a day trader or attempting to scalp some quick swing long trades (1-2 days trade) off the potential bounce. As always, capital preservation is priority number one. Trade defensively!

Some recent related posts:
- Be prepare for possible market bounce scenarios.
- How did the market went into a sell off?


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