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By Market Rewind

The 2011 range finally broke-down hard, leaving the S&P 500 (NYSEARCA:SPY) down -7.2% for the week on extreme negative breadth. In contrast, the VIX (options volatility) moved up to print 39, now more than +40% above its 15-day moving average. A look at this week’s chart below shows commensurately strong oversold conditions — normally a bullish confluence. However, markets are now also facing the after-the-bell S&P downgrade of U.S. Debt to AA+.

While the timing was a surprise, S&P had set a clear bar that was obviously not met by the “debt ceiling deal”. No doubt we were seeing some anticipation of this re-rating during the week, and thank goodness they did it on a Friday to provide trader’s some time to intellectualize the change. That, said, I’m always distrustful of claims that news is “priced in”. Facing the actual event could be an obvious Monday shock. Sunday futures will give us some hint, but with directional volatility so high, they may not be the full tell, and there is always the outside chance of some sort of global political statement to soften the blow.

Of course it could be very ugly, but bottom line it’s just very difficult to predict with behavior as non-normal as it is currently and price levels already so very oversold. After a retest of the Friday lows of SPY $116.86, which I’d previously considered as potential capitulation swing lows, next natural support to watch, falls in the wide 2010 lows range between $105 and $115. A problem on top of any short-lived panic retest could be more forced selling in reaction to that primary effect.

I know… breathe deep, consider alternative plans of action for Monday, and rest up this weekend.

[Week 32 Economic Calendar]

Click to enlarge: