Market action turned downright panicky Wednesday and was bad enough to completely wipe out all the gains in the Dow Jones Industrial Average (DJIA) and the S&P 500 for the year. The S&P 500 now has been negative for 13 of the last 15 days for only the second time in 20 years. The last time that occurred was way back in 2000 after the Internet bubble blew up. Back then a long bear market was still in its early stages, and that is what is on the minds of many market players after this nasty bout of corrective action.
This is a market that has been under some very heavy pressure, but it is this sort of action that always leads to the biggest bounces. On Oct. 16 the DJIA bounced 547 points following a selling squall, but that bounce was wiped out within a few days and set up the market for another leg down, which kicked in with a vengeance Wednesday.
This morning we have another oversold bounce brewing. Good results from Microsoft Corp. (MSFT) , Twitter Inc. (TWTR) and Tesla Inc. (TSLA) are helping to turn the tide, and there is optimism that reports Thursday night from Amazon.com Inc. (AMZN) , Alphabet Inc. (GOOGL) and Intel Corp. (INTC) may help to restore some positive sentiment.
The important thing to recognize about the current market action is that it really isn't driven by news or fundamentals. This is the sort of corrective action that occurs periodically. This market has gone a very long time without this sort of action and it has caught many market players by surprise, but it is the nature of the beast. Markets correct and all the things that investors and traders look at, such as fundamentals and charts, are meaningless.
This market has been increasingly driven by algorithms and computerized trading for a very long time. These programs artificially have inflated the market and produced very lopsided positive momentum at times. Now those programs are working in the other direction and they are helping to make the selling even worse. Computer trading tends to enhance the underlying trend, which is great when things are trending up but makes for major issues when a correction takes hold.
The big question, of course, is whether this correction is coming to an end. While the bounce that is brewing in the early going is providing some hope, there is not convincing reason at this point to believe that support will hold. The biggest bounces come after days such as Wednesday when everything is stretched and negative sentiment becomes extreme, but there are many people now who want to escape the misery that this market has become. That is what overhead resistance is all about, and it will play a part in the action that lies ahead.
At this point bounces should be traded but not trusted. There can be some exceptional counter-trend trading in bad markets, but it is imperative that if you are looking to play them that you don't let trades turn into investment. Counter-trend trades need to be managed closely, and if they don't work then exit quickly and move on.
This is some of the worst market action we have experienced since the 2008-2009 bear market and we must be ready in case it develops further. Trying to call the exact moment the market bounces is not going to help you. It is far better to stay defensive and protect capital while waiting for positive action to develop again. When a turn does come there will be plenty of time to rebuild long positions. Stay patient and trade those oversold bounces if you like, but don't trust the market at this point.