This week’s drop in the price of oil has been an incredible and disturbing thing to see. It suggests that the US economy is experiencing powerful deflationary forces for the moment due to simple lack of demand. The stock market also got hit for an over 1,200 point drop so far this week for the DOW, which is scary for stock market investors who got beaten down in March to see.
So what is next for the market now?
We have seen big swings down in the market in March and then up in April from those March lows, but I would like to suggest that we are set to see some of the volatility actually come out of the markets for the next few weeks. Historically when a market falls through its 200-day moving average and then rallies back up towards it you see the bulk of the rally happen in its first few days and then the market simply drift for several weeks after the momentum fades.
This pattern is likely to repeat.
Here is a chart of the S&P 500.
The S&P 500 rallied up into the 50% retracement area of the February high and March low. It’s daily stochastics got above 80 to signal an overbought reading. At the same time its daily 20-day Bollinger Bands got so wide apart from each other that their width indicator got above 40.
That is a rare event and now the bands are slowly going back towards 10 and are likely to get their in the next few weeks.
What does this mean?
These bands measure volatility and expand when volatility is high. Typically when volatility reaches an extreme they then contract.
This means the market is likely to now simply drift in a range for the next 4-6 weeks before making another more sustainable move.
The oil drop is not likely to cause a market crash now even with the scary two days we have seen. Instead look for the market to drift.
However, that does mean there is not great upside now for buying the S&P 500 when you consider the risks. Making money requires thinking outside the box and looking for things like gold trading with less volatility than the stock market is and trading above its 200-day moving average. Of course when it comes to the metals the best mining stocks will now provide the superior returns in this market.
What about buying bottoms in oil stocks and in airlines?
That is a popular play with many. I did a video on my thoughts on that you can watch here in case you missed it: