Déjà Vu All Over Again

Two Mondays ago the Shanghai Composite had a dreadful day. The index, which had pulled back to its 50 MA in what appeared to be a garden variety correction, broke through this key support level. Because it had led the global equity rebound it triggered worldwide selling. Bourses all over the globe gapped lower and registered ugly losses.

But on the NASDAQ volume was lighter than the previous session. That’s a strange dichotomy and we ignored the divergence, focusing on the ugly price action that normally presages a change in trend.

We know what happened since. The markets clawed back from the start of the following session and went on to make new highs. The upside was stymied by Friday’s distribution, which we detailed in our last column.

This morning, on yet another Monday in which the Shanghai Composite was in precarious position, it happened again. The composite broke to new lows and now seems certain to test its 200 MA. We discussed why we thought this would occur in a previous column. We also suggested that the US market would have to lead of its own accord, rather than take cues from foreign sources in order to sustain its own uptrend.

While we predictably saw gap down selling in the States today a decoupling from the Shanghai market might be underway. The gaps down were less spectacular than two weeks ago and the indices closed comfortably off their lows, indicating that the American markets might becoming “inoculated” to the Chinese correction.

Clearly the American markets have more ballast than their critics give them credit for. But we know the upside has also been tested and found wanting. A correction more through time than price could be in the offing. Whatever occurs, dormant market periods bring fresh opportunity but in the interim patience is required. Forcing trades when the odds favor choppy conditions that are best suited to triggering stops can result in giving back hard earned gains that are better reserved for when a clearer market direction emerges.