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A Few Positive Signs In Yesterday's Sell-Off

The stock market took a tumble yesterday, its biggest one-day drop since June 25. The broader market averages were off 1.3%-1.5%. The decline has sparked concerns that a correction may be underway. Many investors are worried that it may be much more than that. Certainly, with the slowing of the global economy over the past few months and many countries now in a weaker financial position, it is worth sifting through yesterday's rubble to glean some clues about where the stock market may be heading.

First cut: the technicals: The S&P 500 fell 1.44% to close at 1413.11. While this major average had flirted with its 50-day moving average in four of the previous seven sessions, this was the first decisive close below this major trendline. The index fell 1.45% in the first 15 minutes of trading, essentially marking its closing point for the day. Volume during that 15-minute period was moderate. It then meandered sideways during the rest of the session and tried to mount a rally in the mid-afternoon, but then slipped steadily in the final hour of trading.

Having breached the 50-day moving average, the S&P 500 will now look to find support. By my rough eye, it could conceivably find that support here, around the 1400-1420 level, which was its trading range for most of the month of August. Alternatively, if this is a correction of the advance from the intraday low of 1266.74 (set on June 4) to the most recent high of 1474.51 (set on September 14), then the S&P 500 could bottom between 1350 and 1390, according to the lower and upper ranges specified by Fibonacci retracement levels. Of course, these are guideposts only: Mr. Market will do what he pleases.

Second cut: the market caps: The brunt of the sell-off was suffered in the large caps. The S&P 500, as already noted, was down 1.44%. By comparison, the S&P Mid-Cap 400 declined 0.66% to 979.00 and the S&P SmallCap 600 slipped 0.43% to 456.40.

The sell-off was sparked by weak earnings reports from DuPont (DD), 3M (NYSE:MMM) and Xerox (NYSE:XRX), all of which missed consensus earnings estimates. DuPont also announced 1,500 job cuts over the next four years. Its stock fell 9% on the day and was the worst performer in the Dow Industrials. 3M was the second worst Dow performer, with a 4.1% decline. Xerox was down 5.1%.

Although the weaker performance of the large cap stocks had the biggest impact on the overall market, the smaller declines in the mid- and small-caps suggest that there was not a rush to the exits. If investors were in a panic, the percentage declines would probably have been greater in smaller capitalization names, because of their relative lack of liquidity.

Third cut: the sectors: There was no easily discernible pattern in the performance of the major sectors. The biggest decliners among the Dow Jones U.S. Market Groups were Materials (down 3.05%), Energy (down 2.45%), Financials (down 1.45%) and Health Care (down 1.40%). The first three, of course, are "risk-on" sectors, but Technology, which had led the overall market down over the past four weeks, was only down 1.07% yesterday. Technology has been the best performing major sector over the past two days, with a decline of only 0.09%. Intel (NASDAQ:INTC) and Microsoft (NASDAQ:MSFT) were the only gainers in the Dow Industrials yesterday. Similarly, the Industrials, another "risk-on" sector, were among the stronger performers in yesterday's market with only a 0.95% decline.

Among the subsectors, the top four performers, with gains ranging from 1.50% to 2.13%, were transportation-related (i.e. Delivery Services, Trucking, Transportation Services and Maritime Services). The Dow Transports rose 0.85% yesterday, with 16 out of the 20 stocks in that average posting gains. This is noteworthy because the failure of the Dow Transports to confirm the new high in the Dow Industrials has been a major warning sign for those who follow Dow Theory. If the sell-off was due to broader concerns about a weakening economy, then the transport stocks should not have bucked the trend.

Conclusion: Despite the moderately nasty sell-off, there were some positive signs which suggest that the market could find its legs sooner, rather than later. Of course, it is still prudent to be cautious, given the magnitude of the problems facing the U.S. and the rest of the world. What might seem like a fairly benign sell-off could blossom into something much worse, if, for example, the earnings outlook for the fourth quarter and beyond continues to disappoint or if new developments in Europe, China or the Middle East rekindle fears of a global economic recession. It probably makes sense to look for some clear signs that a bottom is at hand before jumping back in.