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Eye of the Storm?

The pandemic-induced cyclical bear decline in 2020 was an exogenous event, namely a healthcare situation and not a financial crisis. Although it was violent, SPX plummeting 35.41% in only 23-trading days, it was brief as a V-type rebound soon developed.


The 2022 decline that started in November 2021 for the growth and technology-heavy indexes (i.e., Nasdaq Composite Index and the Nasdaq 100 Index) and in January 2022 for the rest of the indexes (i.e., S&P 500 Index, Dow Jones Industrial Average, NYSE Composite Index, etc.) appear to be different. It is not likely to be resolved as easily or quickly as the 2020 cyclical bear.


The recent whipsaw market actions are signs of the start of cyclical bear markets. The good news is the overall US stock market remains in a long-term structural or secular bull market. As long as the structural bull remains intact, any deep corrections and cyclical bear declines will not turn into a structural bear. The bad news is the uncertainties in the marketplace can lead to further selling before solid bottoms occur.


The immediate concern is the headline news regarding the escalating tensions between Russia and Ukraine. However, the underlining problem and the one that is far more significant is about the state of the economy and specifically on the Federal Reserve rate hikes to fight inflation. The concern is not necessarily if inflation is a threat to the economy but whether higher interest rates can slow the US economy resulting in a recession.


Increasing market volatilities (i.e., VIX index), deteriorating market breadth (advancing minus declining issues), erratic sector rotations (leadership from growth to value and from cyclical to defensive), weak rallies (oversold bounces), and negative sentiments (consumer and investment sentiments) warn at further market risks in the days and weeks ahead.


So, how much lower can the market go? And how much higher can the market go?


The immediate concern from a technical perspective is the distribution tops developing. Complex head and shoulder tops are visible across the stock market, including in key market indexes including S&P 500 Index, Dow Jones Industrial Average, NYSE Composite Index, Nasdaq Composite Index, and others.


The distribution type formations, as evidenced by neckline supports and the recent right shoulders, are the eye of the storm, giving traders a false sense of calm. Violation of neckline support will not be so calm as it can trigger the next market selloff. Nonetheless, we have endured during distribution tops over the years, and negation of the head and shoulders tops can also lead to the resumption of the bull rallies.


Attached below are the technical levels that can lead to the next market selloff or the resumption of the primary uptrend.


Source: Chart courtesy of StockCharts.com

Source: Chart courtesy of StockCharts.com

Source: Chart courtesy of StockCharts.com

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