Bear Market Update: Environment Ripe for Some Damage

Includes: DIA, QQQ, SPY
by: Deric Cadora

Since the last bear market update 10 days ago, stocks have broken and recovered their rally trend line, the dollar has begun its anticipated bounce, and the bond market continues to display ominous behavior. As Members know, the trend line break confirmed a decline into a daily cycle low while the recovery to new highs indicates the beginning of a new cycle.

Click to enlarge:

S&P 500 daily chart

The problem (for bulls) with such a brief dip is that there was not enough price damage done to work off bullish sentiment, which according to, remains pegged near a sell-signal level. In fact, smart money confidence rests at a level that is outright bearish. Therefore, this current pop in equities likely won't have much juice to it. If stocks then roll over and penetrate the recent cycle low, as indicated by the blue, horizontal line above, we would be facing a failed cycle and the potential for 4-6 weeks of generally lower stock prices. I dare say few traders are anticipating more than a corrective decline at this point. Given sentiment levels, if a little fear were injected into this market, folks might be surprised how quickly we get back to SPX 1040.

Sentiment in the dollar also supports such a move, as bearishness has been running rampant. Public opinion over the dollar is quite negative, and talking heads are still trying to guess how low the dollar can go. A bit more of a bounce should form from here to work off enough bearishness to set the buck up for the plunge into next year's major cycle low.

Click to enlarge:

dollar index weekly chart

The dollar's bounce certainly has the potential to knock stocks below SPX 1160. The question then becomes whether equities can continue to decline when the buck rolls over. There is certainly no guarantee they won't: (Click to enlarge)
s&p 500 to dollar index comparison

Of course, the 2007-08 decline coincided with a burgeoning financial crisis, so some sort of event to generate fear over economic prospects would certainly add weight to the bearish outlook. Perhaps the Democrats will have a better showing at the polls than expected or perhaps a large bank will suddenly expire. I don't know. But the environment is certainly ripe for some price damage.

Another ominous development has just taken hold of the bond market: (Click to enlarge)

treasury bond market break down

The Treasury market may finally be set to enforce a bit of discipline on the FOMC for its malfeasances. Despite promises by the Fed to purchase trillions of dollars of Treasuries with more counterfeit money, bonds are heading lower. This action could certainly be a symptom of next year's anticipated crisis in the dollar, but one thing is for sure: Higher interest rates will not be good for stocks.

Disclosure: None