Market correction: Positive factors in a rather poor overall market – be careful "January defect"

• Stock market year 2024 begins with a correction
• Worse overall market with positive signals
• Seasonal trade: January defect

Year begins with correction

After a strong stock market year in 2023, the new year initially began with a correction. The S&P 500 fell by around 1.5 percent in the first trading week of the year. However, it is now moving back towards all-time highs. The S&P 500 was most recently quoted at 4,850.43 points and is therefore at a record level (as of: closing price on January 22, 2024). As MarketWatch reports, the bulls would clearly dominate again if the index managed to break well above 4,800 points. However, if the S&P 500 falls below the 4,550 point mark (lows from last December), this would be a significantly negative development. According to MarketWatch, an old saying goes: “If the market falls below the December lows of the previous year in the first quarter of the following year, it is a bear market at that point.” That’s why the next few weeks are important.

Positive factors in an otherwise worse overall market

Overall, there has been a deterioration in the overall market, as MarketWatch explains. Nevertheless, there are also some positive factors.

According to MarketWatch, the chart analysis tool McMillan Volatility Band (MVB) signals a sell for the S&P 500. However, the signal would be canceled if the S&P 500 closes above its +4 sigma band, which is currently at 4,875 and continues to rise. And the pure equity put-call ratios would also indicate sell signals at the moment, as they have started to rise near the yearly lows after bottoming out in the first week of the year. An increase in these ratios is interpreted as pessimistic for stocks. However, a decline to new relative lows would cancel the sell signals.

Market breadth is also a concern as it has not kept pace with the strength of the S&P 500. “As a result, both of our breadth oscillators are currently on sell signals, and these signals have been confirmed over several days. Admittedly, these oscillators are the most ‘volatile’ of our indicators and are often subject to price fluctuations. Nonetheless, they are currently negative,” according to MarketWatch.

Meanwhile, the NYSE New Highs vs. New Lows paint a more positive picture. The number of new highs on Wall Street exceeds the number of new lows every day, which is why the indicator remains positive. However, if NYSE lows exceed new highs on two consecutive days, this picture would change. And implied volatility has also been bullish recently, as MarketWatch explains. The “fear index” VIX remained low despite the S&P 500’s correction in the first week of January. “The trend of a VIX buy signal remains intact. This trend would be halted if the VIX were to close above its 200-day moving average, which is currently at 15.60. Until this occurs, the stock market is in for a break no reason to worry.” In the volatility complex, the construct of volatility derivatives also shows a continued bullish attitude towards stocks. A warning signal would occur if January VIX futures close at a higher price than February VIX futures.

“In summary, we continue to hold a core bullish position due to the positional nature of the S&P 500 chart, which remains in an uptrend. We are trading other confirmed signals around this ‘core’ as they arise,” he said MarketWatch.

Significant gains but also losses possible: The January defect

There are several options for investors to react to market corrections that occur at the beginning of the stock market year. Morningstar, for example, refers to the January defect: a strategy that is, however, not risk-free. The January defect is based on the fact that a market correction normally occurs in mid-January. This is most evident in technology stocks. The Trading system provide for the NASDAQ 100-Trust QQQ to be sold short at the end of the eighth trading day in January and to cover the short sale at the end of the 18th trading day in January. MarketWatch has been tracking this seasonal trading for 29 years. In the past, the system has produced both impressive profits and losses, “but because we trade options, we can manage the risk.” For example, in 2022, the system made a strong profit when the NASDAQ 100 fell by 1,900 points during that period. However, last year the opposite was true: there was no reason to worry as the NASDAQ 100 was strong throughout January.

In theory, the system enters its position by buying QQQ puts at the end of the eighth trading day in January, which is January 11 this year. In practice, however, the best entry point has changed over the years. Overall, the best percentage performance results were achieved by entering on the 12th trading day, according to MarketWatch. However, the biggest gains (and some bigger losses) came from entering on the eighth or tenth trading day. The average gain for entries on these days was almost 4 percent, while the average loss on these entries was 3.3 percent.

Editorial team finanzen.net

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