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A bloodbath on Wall Street

Summary:
Mid-week market update: I had expected to begin to wind down and relax for the holidays this time of year. Instead, we got a bloodbath in the stock market. To say that the market is oversold is an understatement. Sure, standard measures indicate oversold conditions, such as the VIX Index had risen above its upper Bollinger Band. Interestingly, the VIX Index failed to rise today despite the carnage in the stock market, which could be a sign of hope for equity bulls. The Fear and Greed Index is also showing extreme conditions. Oversold markets can become more oversold. How oversold? This report from UBS puts the velocity of the sell-off into context. Here is the full chart from UBS: Rebound ahead? Here is what happened next. Out of the 14 instances, 8 of the following

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Mid-week market update: I had expected to begin to wind down and relax for the holidays this time of year. Instead, we got a bloodbath in the stock market.

To say that the market is oversold is an understatement. Sure, standard measures indicate oversold conditions, such as the VIX Index had risen above its upper Bollinger Band. Interestingly, the VIX Index failed to rise today despite the carnage in the stock market, which could be a sign of hope for equity bulls.

A bloodbath on Wall Street

The Fear and Greed Index is also showing extreme conditions.

A bloodbath on Wall Street

Oversold markets can become more oversold. How oversold? This report from UBS puts the velocity of the sell-off into context.

A bloodbath on Wall Street

Here is the full chart from UBS:

A bloodbath on Wall Street

Rebound ahead?

Here is what happened next. Out of the 14 instances, 8 of the following years saw very positive returns of +12% to +44% while 6 saw very negative returns.

A bloodbath on Wall Street

SentimenTrader also found that returns in the following quarter tends to be positive, though it is difficult to generalize with such a small sample size.

A bloodbath on Wall Street

In other words, expect fat-tailed performance in the coming year. For what it’s worth, the stock market weakness created a Zweig Breadth Thrust oversold condition, which is a setup for a possible ZBT buy signal. Should the market rebound sufficiently to achieve a breadth thrust in the 10 trading days after the recovery from the oversold condition, it would generate a rare ZBT buy signal indicating positive momentum. Even without a ZBT buy signal, such oversold conditions can be useful signals of a market that is stretched to the downside.

A bloodbath on Wall Street

My inner investor has de-risked his portfolio, but my inner trader remains bullishly positioned in anticipation of a relief rally, but he is feeling the pain and getting very nervous.

Disclosure: Long SPXL

About Cam Hui
Cam Hui
Cam Hui has been professionally involved in the financial markets since 1985 in a variety of roles, both as an equity portfolio manager and as a sell-side analyst. He graduated with a degree in Computer Science from the University of British Columbia in 1980 and obtained his CFA Charter in 1989. He is left & right brained modeler of quantitative investment systems. Blogs at Humble Student of the Markets.

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