Stop worrying and learn how to trade stock market corrections

The stock market was not impressed with the start of the earnings season last week. Major financial stocks JPMorgan Chase (JPM), Goldman Sachs (GS) and Citigroup (C) all beat their earnings and revenue forecasts, but their shares fell 2.5%, 1.9% and 2.3% for the week, respectively. . This move was in line with the technical outlook as stock market risk increased last week.

The hourly chart of the S&P 500 from AdvisorsPerspectives.com does not provide a good picture of market action. It is especially interesting that the higher openings on Wednesday and Friday were hit with selling, which is a sign of weakness. For the week on the NYSE, there were 896 numbers moving up and 2564 numbers declining. The declining volume on the NYSE was twice as great as the advancing volume.

Last week’s decline was again led by the iShares Russell 2000 (IWM), which fell 5.1%, while the Dow Jones Transportation Average fell 2.4%. The 1% drop in the S&P 500 was matched by the Nasdaq 100 Index.

The best performance of the week was the Dow Utility Average, which rose 2.3%. The volume analysis for the related Utilities Sector Select (XLU) had turned positive with the close on July 9 (see chart). For the week, the Consumer Goods Sector (XLP) and the Real Estate Sector (XLRE) were also higher. The energy sector (XLE) was the big loser, dropping 7.9% for the week.

Given the price action, it is not surprising that the technical outlook deteriorated further last week. The drop has not been severe enough in my opinion to confirm that a correction is currently underway as another bounce is possible first.

This is because the daily top formations in the market-leading Spyder Trust (SPY) and the Invesco QQQ Trust (QQQ) are not yet fully completed. The Spyder Trust (SPY) had a high of $437.92 last week, which was very close to the monthly R2 pivot resistance of $437.93.

The fact that this level was reached before SPY went lower is an action consistent with the formation of a top. the weekly starc+ band stands at $446.06. The rising 20-week exponential moving average (EMA) is a good support at $414.04, which is 4% down from Friday’s close. There is much stronger support in the $400-$403 area (line a).

The weekly S&P 500 Rule Ahead/Refuse peaked two weeks ago, but is still well above the rising weighted moving average (WMA) and support (line b). The A/D line doesn’t always drop below its WMA on a correction, but it wouldn’t be surprising in this case.

Last week, the Invesco QQQ Trust (QQQ) pushed above its monthly R1 resistance at $363.68 on Tuesday and Wednesday before closing the week at $357.60. The 20-day EMA is $355.14, with further chart support at $347.84 (line c). The 20-week EMA is at $337.52, which is now 5.6% lower than Friday’s close.

The Nasdaq 100 Advance/Decline has formed lower highs (line g) while QQQ has formed higher highs, creating a negative divergence. The A/D line fell below its most recent low (line d) at the end of the week, confirming the divergence. A rebound back to his WMA is possible before the support (line f) is broken.

In February, the QQQ had a 14-day correction amounting to a 12% drop from high to low (line a). A few days after the high, the Nasdaq 100 A/D line fell below the WMA, consistent with a correction.

In April, there was another 10-day decline as the QQQ lost 7.8%. The Nasdaq 100 A/D line fell below its WMA a day after the high (line b) and also violated its uptrend (line e). The daily starcband was tested again for this drop. The two market declines clearly demoralized many tech investors, causing many to ignore the bullish signals in early June.

Some new traders or investors may not understand or appreciate market corrections, but I have written about them often. There have been 14 market corrections since 2010, but these have varied wildly in terms of the S&P 500’s decline and the length of the correction.

The average length of the correction was 56 days, but eight lasted less than 40 trading days. Corrections usually mean a drop of 20% or less, so the spring 2020 drop of 33.9% is not included. Corrections in the bull market usually lead to a negative change in sentiment for most investors and traders.

In the latest survey by the American Association of Individual Investors (AAII), the bullish rate fell to 36.2%, down from 48.6% on June 30 and 56.9% on April 7. The bearish rate stands at 26.8%, not much different from the 20.4% reading on April 7. Typically, the bullish% will often make a low for prices, as I mentioned in 2020

Many of the market corrections I have studied over the past fifty years have had a similar structure, and the daily starcbands can be very helpful in analyzing them correctly. Typically, the first heavy sell-off will bring the market averages below their starc bands, which will be accompanied by an increase in put-buying. The rally from this low will often last a little longer and go high enough to convince those late put buyers to close their positions.

Ultimately, the positive monthly and weekly A/D analyzes indicate that a further correction in the coming weeks will ultimately provide a good buying opportunity for both growth and value stocks or ETFs. The technical deterioration at the start of the week was a good reason for traders to tighten stops, while investors should be given a chance to fill positions at lower levels.