Traders have most likely taken notice of the recent explosion of volatility in a variety of financial markets. The global markets have been painfully indecisive for the trend traders with bi-polar daily movements and a fierce battle between the bulls and the bears. Commodities have been plummeting to fresh lows on the stronger U.S. dollar. This situation could mean that traders have very important decisions ahead if this becomes the short-term norm for the markets.
This decision: to stay out or get involved. It is always difficult to assess explosive volatility because traders often wonder if it will be sustained or if it is simply a hiccup of indecision or a correction out of necessity to a larger and more grandiose bullish movement. Structurally and technically, the equities markets are showing true signs of a top and selling into rallies may be the best play to finish out the year. The SPY correction from 201.85 (September 18, 2014 high) to 181.92 (October 15, 2014 low) marked an aggressive 10% correction and quickly picked up momentum on a throng of geopolitical events and concerns that the U.S. Federal Reserve is expected to officially end quantitative easing (QE) this month and aims to raise interest rates in 2015. The U.S. dollar has been the beneficiary of one-sided strength until the FOMC Minutes that were released on October 8, 2014 revealed a more dovish stance and data-dependent Federal Reserve. The volatility that proceeded for the next 24 to 48 hours was the catalyst for a U.S. dollar correction (Figure 5) and very chaotic movements thereafter.
All of these components are forcing market participants to ponder the actual effectiveness of years of QE and the biggest question is, “What has QE really done? Has cheap money been propping up the markets for the past three to four years or are we actually seeing fundamental improvements and grounds for optimism to sustain a steady bullish trend?”
This month’s FOMC Meeting (being held on October 29, 2014) could shed some light on the market’s interpretation of QE, its effect, its aftermath, and may even provide clues for trading the remainder of the year. There is room to the downside of all the major indices (S&P, DJIA, NASDAQ – See Figures 1-3). The markets have experienced fake-outs before, where the corrections are short-lived but the technical picture truly looks to be in favor of sellers adding to positions to see continued movements to lower levels. Adding gas to this potential fire is the Volatility Index (VIX) which hit yearly highs this week with a violent spike to 31.03 after resting near all-time lows around 10.00 (Figure 4).
All of this information, but what is a trader to do? Fund managers may go on the defensive and protect portfolios to avoid giving back hard-earned gains. Traders may test their luck with the volatility and capitalize on the increased volume and fear with bonds and safe-haven currencies. One may also choose to sit this one out, watch the fighting, and wait for entry after the dust and potential ashes settle. However you choose to participate, volatility has been resuscitated and market instabilities will always provide speculation and opportunities for traders.
One thing is becoming clear, this year’s fourth quarter (Q4) is setting up to be very interesting and if a direction is taken, the movement could offer great rewards.
Figure 1 – SPY chart showing signs of a continued selloff to 172.00 area.
Figure 2 – DJIA chart showing signs of a continued selloff to 15600.
Figure 3 – NASDAQ chart showing signs of a continued selloff to 3300.
Figure 4 – VIX or the Volatility Index/Fear Guage hit yearly highs this week (October 13 through October 17, 2014).
Figure 5 – USDOLLAR chart setting up for a potential correction to past resistance.