Wow, what a week/month it has been so far. Students of market know that October has a reputation for increased volatility. And cutting to the chase, this October is certainly living up to that reputation as we've seen wild swings in the major indices each and every day this month.

Shorter term, it is interesting to note that Monday and Tuesday saw declines as traders began to fret about global growth and the potential economic impact of an Ebola outbreak. The two-day drop wound up erasing all of the gains seen from last week's strong bounce. On Wednesday, stocks enjoyed a joyride to the upside in response to the Fed saying rates were not likely to rise any sooner than projected. That romp erased the entirety of the Mon/Tues decline. And then on Thursday, stocks got hit hard, which reversed all of the reversal, which, of course, had reversed the prior reversal!

S&P 500 - Daily

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The problem on Thursday was simple. Traders and their fancy computers began to realize that if the Fed was worried about the potential impact of #GrowthSlowing, then maybe they should be worried too.

Anyone following the economic data in the U.S. may be wondering what all the fuss is about. However, the U.S. isn't the problem. No, the concern is global. Despite the massive QE program and "Abenomics," Japan's economy is struggling mightily right now. In China, the economic growth rate is slowing enough (current projections are for a 7.3% annualized GDP) that there is talk of system-wide stimulus. In Europe, well, even Germany is weakening more than analysts expect and the R-word is being used with increased regularity. And lest you forget, this week the IMF downgraded their forecast for global growth.

Here at home, the fear is that either the global economic slowdown or the potential Ebola problem will wind up hitting the U.S. economy - just as the Fed is about to start "exiting" their stimulative stance.

Therefore, the question of the day is if the Fed's ZIRP (zero interest rate policy) will be enough to offset these concerns? Or put another way, can U.S. investors really expect the American economy to continue to motor along if the major economies of the globe are slumping?

What's Different This Time

As has been discussed ad nausea, this market has seen a #BTFD strategy implemented each and every time the S&P 500 has dipped a couple percentage points. This has been going on for years now. However, so far at least, the dip buyers have been overrun.

One of the concerns is that the current bout of volatility is different than anything investors have seen lately. You see, this time there is no crisis to freak out about. No, this time, stocks are going down on fundamental fears.

Another issue that could be placed in the 'It's different this time' category is the fact that market leadership has been narrowing dramatically and has now shifted to defensive areas. (Don't look now, but staples and utilities are leading the pack.)

Consumer Staples Select Sector SPDR - Daily

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Then there are the technical divergences. As you may recall, something on the order of 50 percent of all stocks in the NASDAQ are down 20 percent or more from their highs. And then the well-publicized divergence between the blue chips and the small caps is getting worse.

S&P 500 - Weekly

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Russell 2000 - Weekly

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The key here is that the combination of fundamental concerns, narrowing leadership, and technical divergences tend to be classic behavior for a market that is in the midst of a topping process.

Sure, stocks could turn around today and reverse the reversal of the reversals once again. Remember, market tops can take an exceptionally long time to play out. After all, there is no recession in sight and seasonality definitely favors the bulls for the next six months. Plus, it is important to recognize that bear markets tend to be triggered by recessions, the Fed, or external events.

One More Thing

There is one more item to discuss on the topic of the increased volatility. Word has it that there is a new HFT algo in town. Apparently this algo is a bigger, badder version of anything that is out there currently and is basically causing liquidity in the S&P futures market to crater. Reports from Nanex indicate that the current liquidity is at the lowest levels seen since 2011.

So, while only conspiracy theorists would blame this decline on the computers, it is worth knowing that there may be additional factors at work on an intraday basis.

The Bottom Line

The final point for today is this: Given the current action, it is probably a good idea to recognize that risk levels are elevated and that investors should play the game accordingly here.

Turning To This Morning

The U.S. market appears to be the dog wagging the global market tail this morning as yesterday's vicious decline on Wall Street has spread across around the world today. In Japan and Europe there are new worries about the state of the economies. Today there are reports that Germany is cutting its outlook on grwoth and word that European leaders are considering this to be their 'QE moment'. In addition, the weakness in China's economy is starting to impact earnings of tech companies. For example, Microchip (NASDAQ: MCHP) reported weaker than expected results and blamed the miss on China. Here at home, futures are down in sympathy and traders will be watching the recent lows and the 200-day moving average on the Dow and S&P 500.

Pre-Game Indicators

Here are the Pre-Market indicators we review each morning before the opening bell...

Major Foreign Markets:
    Japan: -1.15%
    Hong Kong: -1.89%
    Shanghai: -0.60%
    London: -1.12%
    Germany: -2.02%
    France: -1.36%
    Italy: -1.12%
    Spain: -0.85%

Crude Oil Futures: -$1.50 to $84.29

Gold: -$1.60 at $1223.70

Dollar: higher against the yen, euro and pound.

10-Year Bond Yield: Currently trading at 2.307%

Stock Indices in U.S. (relative to fair value):
    S&P 500: -5.91
    Dow Jones Industrial Average: -47
    NASDAQ Composite: -30.88

Thought For The Day:

Life is 10% what happens to you and 90% how you handle it. -Unknown

Current Market Drivers

We strive to identify the driving forces behind the market action on a daily basis. The thinking is that if we can both identify and understand why stocks are doing what they are doing on a short-term basis; we are not likely to be surprised/blind-sided by a big move. Listed below are what we believe to be the driving forces of the current market (Listed in order of importance).

      1. The State of the Geopolitical 'Issues'
      2. The State of Fed/ECB Policy
      3. The Level of Interest Rates
      4. The Outlook for U.S. Economic Growth

The State of the Trend

We believe it is important to analyze the market using multiple time-frames. We define short-term as 3 days to 3 weeks, intermediate-term as 3 weeks to 3 months, and long-term as 3 months or more. Below are our current ratings of the three primary trends:

Short-Term Trend: Neutral
(Chart below is S&P 500 daily over past 1 month)

Intermediate-Term Trend: Moderately Negative
(Chart below is S&P 500 daily over past 6 months)

Long-Term Trend: Positive
(Chart below is S&P 500 daily over past 12 months)

Key Technical Areas:

Traders as well as computerized algorithms are generally keenly aware of the important technical levels on the charts from a short-term basis. Below are the levels we deem important to watch today:

• Key Near-Term Support Zone(s) for S&P 500: 1960(ish)
• Key Near-Term Resistance Zone(s): 1980

The State of the Tape

Momentum indicators are designed to tell us about the technical health of a trend - I.E. if there is any "oomph" behind the move. Below are a handful of our favorite indicators relating to the market's "mo"...

Trend and Breadth Confirmation Indicator (Short-Term): Negative
Indicator Explained

Price Thrust Indicator: Negative
Indicator Explained

Volume Thrust Indicator: Negative
Indicator Explained

Breadth Thrust Indicator: Neutral
Indicator Explained

Bull/Bear Volume Relationship: Moderately Positive
Indicator Explained

Technical Health of 100 Industry Groups: Neutral
Indicator Explained

The Early Warning Indicators

Markets travel in cycles. Thus we must constantly be on the lookout for changes in the direction of the trend. Looking at market sentiment and the overbought/sold conditions can provide "early warning signs" that a trend change may be near.

• S&P 500 Overbought/Oversold Conditions:
        - Short-Term: Moderately Oversold
        - Intermediate-Term: Moderately Oversold
  
• Market Sentiment: Our primary sentiment model is Positive .

The State of the Market Environment

One of the keys to long-term success in the stock market is stay in tune with the market's "big picture" environment in terms of risk versus reward.

Weekly State of the Market Model Reading: Neutral
Indicator Explained

Looking For Guidance in the Markets?

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All StateoftheMarkets.com Premium Services include a 30-day money-back guarantee!

Wishing you green screens and all the best for a great day,

David D. Moenning
Founder and Chief Investment Strategist
StateoftheMarkets.com
President, Heritage Capital Research
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Positions in stocks mentioned: none

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The opinions and forecasts expressed herein are those of Mr. David Moenning and may not actually come to pass. Mr. Moenning’s opinions and viewpoints regarding the future of the markets should not be construed as recommendations. The analysis and information in this report and on our website is for informational purposes only. No part of the material presented in this report or on our websites is intended as an investment recommendation or investment advice. Neither the information nor any opinion expressed nor any Portfolio constitutes a solicitation to purchase or sell securities or any investment program. The opinions and forecasts expressed are those of the editors of StateoftheMarkets.com and may not actually come to pass. The opinions and viewpoints regarding the future of the markets should not be construed as recommendations of any specific security nor specific investment advice. One should always consult an investment professional before making any investment.