US Stocks: Get Ready For The Next Leg Lower

The Bottom Line

Our data-driven analytical process indicates the benchmark S&P 500 (SPX) is in the midst of an emerging major downtrend and is vulnerable to a deeper decline as our Tactical models (Asbury 6, Correction Protection Model) remain on a mid-January Negative/Risk Off status. A breakdown below the 4279 to 4238 area in SPX, and/or below the 14,050 to 13,880 area in the market-leading NASDAQ 100 (NDX), would likely trigger the next leg lower in these key indexes.

Introduction

In our previous February 7th article for Forbes, we said the US stock market was at a multi-quarter decision point as investors tried to determine whether a robust economy and strong jobs market were enough to to overcome the adverse effects of rapidly increasing inflationary pressures amid a less accommodative Federal Reserve. We identified the 4444 area in the S&P 500 as a key underlying support level which, if broken, would likely trigger a new bearish trend. The US broad market index has declined by an additional 4% since then as political tensions in Eastern Europe continue to escalate.

Market Internals Remain Weak

Table 1 shows that, through Friday Feb 18th, all Asbury 6 constituent metrics remain negative (red). The “A6” model itself has been on a Negative status since January 14th. The S&P 500 has declined by as much as 9.5% since then.

The Asbury 6 is my firm’s tactical risk management model. It was designed to help investors determine what the real day-to-day condition of the market is in an environment where computer driven trading (which dominates daily stock market volume) has made investing in equities much more nerve-racking and confusing.

As long as the “A6” remains on a Negative bias as it is now, any market rallies that emerge are likely to be short-lived and unsustainable.

How To Interpret The Asbury 6:  Four or more metrics in one direction, either Positive (green) or Negative (red), indicate a Tactical bias. The dates in each cell indicate when each individual constituent of the A6 turned either positive (green) or negative (red). When all Asbury 6 are positive, market internals are the most conducive to adding risk to portfolios. Each negative reading adds an additional element of risk to participating in current or new investment ideas.

Major Indexes On The Verge Of Triggering A Deeper Decline

Chart 1 below shows that the S&P 500 is hovering right on top of the 4279 to 4238 area that I referred to above. It represents the May 2021 high and the July and October lows, and loosely defined the index’s most recent low on January 24th as the market recognized that level.

This is the level that traders are currently leaning on to try to “buy the dip”. If it is significantly broken, however, those new buyers will probably be forced to capitulate (sell). And this forced selling would likely drive the index even lower, to the next key levels at 4168 and then 4057 as shown on the chart.

Chart 2 shows that the market-leading NASDAQ 100, which represents big cap Technology stocks, is also testing an important underlying index level. This level is at 14,050 to 13,880 and represents the February and April 2021 highs.

This key level in NDX is being broken now, after previously being tested and held on January 24th. Considering that this index typically leads the US broad market both higher and lower, I would view a sustained decline below 13,880 as a leading indication that the entire US stock market is beginning a new and significant leg lower in what appears to be an emerging major downtrend.

Conclusion

Investors made a living last year on “buying the dip” as — even though the average constituent stock in the S&P 500 had a 19% decline during the year — the index itself only declined by a little more than 5%. Investors are trying to buy the dip again now, and you can see it in both the S&P 500 and NASDAQ 100 Indexes.

This time is different, though. Last year’s major bullish trends have already been broken, and market internals — as indicated by the Asbury 6 — have been negative or bearish since the middle of January. Since then, we have been suggesting that our clients maintain a defensive stance and that remains valid today. One day this decline will become a terrific buying opportunity, but it’s not here yet.