The Indices Are Breaking Down, But This Correction Isn’t Over Yet

All the indices finished red on Monday, with oil higher but off of its highs and bonds lower but oh off their worst levels. The S&P 500 lost 0.8% and the Russell 2000 (IWM) 0.7% but the most important shift on Monday was that the Magnificent Seven led to the downside with a loss of 1.6%.

For weeks, the mega caps have been the thing holding the indices up while the broad market got crushed. On Monday they weakened and the damage that has been building underneath started to show to a greater degree in the averages themselves.

The most troubling number remains the new highs and new lows, at 60 against more than 400. Breadth was a meager 31% positive. Breadth has been weak for a while, but we haven’t seen a brutal lopsided day yet. These are correction readings, and now the weakness is climbing up the AI quality ladder toward the names that had been immune.

Cracks Are Spreading

The Russell 2000 and, to some extent, the Dow are breaking down. Small caps, which are more reflective of the “average” stock than the indices, are down over 8% from their August 14 high, and it won’t take much more downside to push them to a technical correction. The Nasdaq and the S&P 500 are still holding their 50-day moving average support and that is keeping the folks who don’t look under the surface bullish.

The line to watch is that 50-day support on the Nasdaq and S&P. As long as it holds, the megacaps are still cushioning the averages and the correction stays contained to the broad market. If it breaks, there is nothing underneath, because the rotation that used to catch the money ran out long ago. That is the level that tells us whether this stays a correction under the surface or becomes one the indices can no longer hide.

Data Won’t Rescue it

We have a heavy week of data ahead, with PCE on Wednesday, GDP and ISM manufacturing on Thursday and the jobs report Friday, plus a Fed speaker seemingly every few hours. Expectations are not optimistic, and the rate picture keeps getting worse. Odds of a quarter point hike on October 28 are now at 70%, up from 58% a week ago and just 18% a month ago.

In a month the market has gone from barely pricing a hike to treating one as the base case, and the data this week is more likely to confirm that path than to break it. Oil is still elevated, the Iran standoff has no resolution, and a hot PCE would seal the October move. There is no obvious catalyst on the calendar that reverses the pressure.

Game Plan

There is not much to do here but stay patient and resist the temptation to bottom fish stocks that have no support. The pull is strongest exactly now, when names are down a lot and look cheap, and it is exactly the wrong instinct. A stock in a downtrend with no base under it can fall far further than looks possible, and buying it because it is lower is how you end up averaging down into a hole. I already am kicking myself for not being more patient on a couple of recent buys but I still have plenty of buying power.

The opportunities are being created in these 400 new lows, but they are not ready. The signal I am waiting for is a change of character in oil and bonds, not a lower price on a stock I like. Until the pressure that is driving this lets up, the smart move is to keep the cash, keep the list and let the correction do its work. It is not finished yet.

Have a good evening. I’ll see you tomorrow.

At the time of publication, DePorre had no positions in any securities mentioned.