Biggest Rallies Occur In Bear Markets
As expected, the market was oversold enough going into last Friday to elicit a short-term reflexive bounce. Not surprisingly, it wasn’t long before the “bulls” jumped back in proclaiming the correction was over.
If it were only that simple.
First, as I have discussed in the past, market prices remain in a “trend” until something causes that trend to change. This can be most easily seen by looking at a chart of the S&P 500 as compared to its 400-day moving average.
As you will notice in the main body of the chart, during bull markets, prices tend to remain ABOVE the 400-dma (orange-dashed line). Conversely, during bear markets, prices tend to remain BELOW the 400-dma.
The one event in 2011, where all indicators suggested the market was transitioning back into a bear market, was offset by the Federal Reserve’s intervention of “Operation Twist” and eventually QE-3.
During cyclical bear markets, bounces from short-term oversold conditions tend to be extreme. Just recently Price Action Lab blog posted a very good piece on the commonality of short-term rebounds during market downtrends:
“The S&P 500 gained 3.63% in the last two trading sessions. About 75% of back-to-back gains of more than 3.62% have occurred along downtrends. Therefore, a case for a bottom cannot be based solely on performance.”
“It may be seen that 73.85% back-to-back gains of more than 3.62% have occurred along downtrends, i.e., this performance is common when markets are falling. The sample size consists of 195 back-to-back returns greater than 3.62%.
Therefore, strong rebounds along a downtrend cannot be used to support a potential bottom formation.”
After a rough start to the new year, it is not surprising that many are hoping the selling is over.
Leave A Comment