Yesterday’s Capitulation

If a market is oversold you always want to see signs of capitulation as a tell that a short term bottom has been made. Yesterday’s action surely looked at lot like people throwing in the towel to me. After dropping more than 170 points, the Dow actually finished the day higher by 8 points. It looked like a good example of a selling climax.Where did that sell-off put us in terms of the market correction? The S&P 500 hit 1235, which is 7% below it’s 2006 highs. Other indices such as the Russell 2000, which have led the latest bull run, are down far more than that. Yesterday that index of small cap stocks traded at 685, nearly 13% from it’s all-time high.

The overall market action has been interesting lately, to say the least. That said, and despite the fact that I have talked about it a lot recently, I am still not taking much action here. As I’ve said before, I am a long term investor, so most of my time is used monitoring companies and their specific business fundamentals, not market technicals. These companies are still doing well, even though most of their share prices have been flat-to-down since reporting Q1 earnings in April.

I only mentioned the overbought nature of the market a few weeks back to explain why I was raising cash levels in the portfolios I manage and to prepare my clients for a rather sharp sell-off. After all, they haven’t seen one since early 2003, and many seem to forget how ugly they can get. I have put some of that cash to work in recent days, but still have slightly above-normal cash levels.

Where do we go from here? Hopefully we have put in a short term bottom. I would still welcome a 10% correction on the S&P 500 to under 1200, and I think the odds are still good that we get that in coming weeks and months. However, yesterday’s trading action indicates we could get a bounce here before we head to that level.