More Extremes, But No Impact

10/07/08 4:15 PM EST

As of: SPX 1075 HELP  ARCHIVE

Traders didn't like much of anything today, and we got yet another session with only feeble bounces, another round of new lows in the major indices, and another record in the number of issues skidding to 52-week lows.  The percentage of securities sitting at a new low rivals the very worst of any time in six decades.

This was the fourth straight day that the S&P 500 lost more than 1%, the first time in six years that's happened.  Over the history of the index, such a feat has occurred five times (05/11/62, 06/14/62, 10/19/87, 07/23/02 and 10/07/02).  All of those led to excellent short-term bounces, with the index up over the next three sessions each time by at least +2% and averaging +4.9%.

Using the Dow Jones Industrial Average so we can look at more history, the bounces tended to peter out more quickly.  But still, if you look at the two-day returns after four straight 1% losses, the Dow was up 17 out of 21 times (an 81% success rate) and averaged +2.2%.  That's fairly impressive given that 8 of them occurred during the early 1930s when the index seemingly did nothing but slide lower day after day.

This morning, we looked at a few charts of the extremes generated during yesterday's session.  They were compelling evidence that the indices have probably suffered the worst of their fate, at least temporarily...but at this point we have to be wondering "so what?".  We hit an historic extreme last Monday too, and now we're sitting several percent lower.

The major difference between today and last week is that some kind of undercut of last week's initial crash low was to be expected, given historical precedent.  Every one of those other precedents formed a more sustained low within 5 to 10 days of the crash, usually sooner rather than later.  So this week should be the defining moment that tells us with more certainty if we're just clinging to false hopes by expecting an intermediate-term low around here.

The market is clearly not responding to everything the government has thrown at it, which is surprising.  We'd be fooling ourselves if we expected massive government intervention to cure the longer-term ills, but historically these kinds of gargantuan shifts in policy have consistently yielded massive short-term rallies in equities.  The fact that we can't hold anything now for more than a couple of hours at most is disconcerting.

Given all the of the extremes that we've gone over during the past week (which have become redundant at this point), the market's usual post-crash pattern, seasonality and a host of other factors, I was looking to buy into the 1050 - 1075 area on the S&P should we see it early this week.  We did, and continued to slice right through it, which still has me back on my heels.  I don't want to keep adding exposure in a tape that is not responding.

We keep racking up more and more extremes, and we've reached critical mass with the whole "oversold" idea.  Either the market will hold true to history and bounce over the coming days, or...well, I simply don't know.  If we can't get some upside going soon - like tomorrow - then I just don't know what to expect.

This Is The Key Week

10/07/08 8:20 AM EST

Good Tuesday morning...We begin the day with modest gains in the pre-market futures, but they have become exceptionally volatile as traders are not getting what they want - coordinated, and dramatic, Central Bank action.  Commodities and most foreign markets are trying to claw back from yesterday's shellacking, but all eyes are currently on the Federal Reserve and what dramatic steps they may take to help restore some confidence to the credit markets.

Yesterday we discussed several of the notable readings that triggered throughout the day, so I don't want to spend too much time re-hashing them now.  Suffice it to say that similar to a week ago, the market registered readings that have very rarely been seen.

The fact that we've seen two such days in such a compressed period is elevating some moving averages of those readings to levels we haven't seen for several decades.  One of them is the number of securities hitting new 52-week lows on the NYSE, which amounted to around 50% of all issues yesterday.

That in itself is remarkable, and when we look at that indicator's average over the past month, it has amounted to 15% (the equivalent of 500 new lows every day for a month).  That may not seem high, but it's unlike anything we've seen in more than 30 years:

It's difficult to see how the market responded 30 years ago, so the following chart zooms in on the decade from 1965 - 1975 when the moving average of new lows approximated what we're seeing today.

The indicator had a mixed record at preceding market rallies, particularly sustained ones.  Stocks did tend to bounce, at least over the next several weeks, but three times that rally failed and led to another new low on the S&P, and three times it led to sustained multi-year gains.

I also noted a few price-based extremes.  At its worst point yesterday, the S&P was about 35% below its yearly high and 22% below its 200-day moving average, both qualified extremes.  The recovery into the close alleviated those extremes a bit, but what we're seeing in terms of "price stretchiness" is still notable, as the chart below shows:

The most extreme measure, of course, is volatility, as we're going through something we've really only seen twice in the past 80 years (the mid-1930s and 1987).  Historical volatility on the S&P has skyrocketed, and in combination with the other measures, appears to indicate that we're rapidly approaching the upper boundaries of historical moves.

One of the missing pieces of the sentiment puzzle has been extremes in the options market.  Last week, the smallest of options traders actually increased the amount of their volume they spent on buying speculative call options, which is not the type of behavior we usually see at or near market lows.

That could have very well changed yesterday, as we did see a spike in many put/call ratios.  The Total Put/Call Ratio from the Chicago Board Options Exchange rose to 1.51, the highest level since mid-January.  And, as we discussed yesterday, "smart money" traders in S&P 100 (OEX) options continue to focus on call options, pushing the moving averages of that put/call ratio to extremely bullish (for the market) levels.

Heading into Monday, I suggested that given the readings we saw last week, and the fact that the market has responded quite well to other post-crash patterns, I would be looking to buy more aggressively into the 1050 - 1075 area should the S&P 500 suffer such a fate early this week.

It did, and I did.  And I did not expect that it would just keep going.  The intraday lows we hit on Monday were well below what I thought the worst-case scenario would entail, and it forced me to cut back on making any additional purchases throughout the day.  Historical precedent is exceptionally important, but if this is one of those once-in-a-lifetime events, I don't want to get stuck too badly.

Since last week, we'd been going over the chance - in fact, the probability - that the market would drop down to challenge, and even exceed, last Monday's panic lows.  That wouldn't be at all unusual.  What would be unusual is if price just kept dropping, and didn't form a major low within 5-10 days of last Monday.  Every precedent we looked at in the last Data Brief accomplished just such a thing.

We're within that window now, so given that and what we went over yesterday, we must form a low somewhere in here, this week.  With the historic level of volatility we've witnessed, we could (and should) still see 50-point swings in the S&P and once again I suspect we'll be testing yesterday's lows in one form or another, but we really must start making some upside progress - instead of one step forward, two steps back, we must start taking two steps and giving back only one.  The action (or lack thereof) of the Federal Reserve should go a long ways to determining which path we're going to take.