After failing to hold on to any of Tuesday’s gains the bulls have to be disheartened with the recent price action in the market. On a technical basis, when looking at indicators like MACD and RSI, the markets are at their most oversold levels since March 2009. However as we have continually stated, markets can remain oversold for long periods of time just like they can remain overbought for long periods of time. The 1,120 and 1,100 levels become key for the S&P500 as any break below them, especially the ladder, could open the door for another 3-7% drop in the markets.
Should SPX breakdown below 1,100 it would officially enter bear market territory, as it will have retreated 20% from its May highs. The last time this happened was in September 2008 and everyone knows what happened next. We recommend following some of the stronger stocks to see how they act during further market weakness as they can help provide clues to just how bad the carnage will be. Stocks like AAPL, AMZN, LULU, & CMG have actually held up quite well on a relative basis to the market. Should they start to breakdown more drastically it could be a sign that the market is in for rough couple months ahead, possibly even more so than people already think.
There is one thing though that we noticed that at least in the very short term, points to potential relief for the bulls. The premium on VIX calls expiring August 17 (that is the right to own the VIX at that expiration date) is not equal to the current price of the VIX. For example, the 30 call strike on the VIX is trading for less than $10, and the 35 call strike is going for less than $5. With the VIX currently at 42, these strikes are actually trading at a discount. This could be a clue that the market thinks volatility is going to wane in the coming days ahead and our natural reaction would be to think this is bullish for the markets in the short term.
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