- The stock market is likely to flash a technical sell signal that could lead to more downside ahead, according to Fairlead Strategies.
- A loss of momentum in stocks means the S&P 500 could fall 7% to its 50-day moving average, Fairlead's Katie Stockton said.
- "If these indications unfold at today's close, we would see that as an impetus to reduce counter-trend exposure to U.S. equities," Stockton said.
The stock market could fall another 7% from Friday's close as momentum indicators are on the verge of flashing a technical sell signal, according to Fairlead Strategies' Katie Stockton.
Stocks have already fallen 4% over the past week after the S&P 500 ran into resistance at its closely watched 200-day moving average. Now, it's likely that the S&P 500 gravitates towards its 50-day moving average, just under the 4,000 level, according to Stockton.
"The market has suffered a significant loss of momentum that is likely to yield a MACD 'sell' signal today for the SPX, in addition to a bearish crossover in the weekly stochastics," Stockton said in a Monday note to clients.
The moving-average-convergence-divergence indicator, or MACD, is a trend-following momentum indicator that technical analysts use to show the relationship between two moving averages of a security's price. A signal line is plotted, which can function as a buy and sell signal. Stockton uses MACD to capture momentum and trend across multiple timeframes. The indicator appeals to her because it's very black and white, generating either a buy, or a sell.
"If these indications unfold at today's close, we would see that as an impetus to reduce counter-trend exposure to U.S. equities," Stockton said.
Adding to Stockton's confidence that the stock market could see a swift decline to its 50-day moving average is the fact that Wall Street's volatility index has a lot of room to the upside before hitting resistance. The VIX is inversely correlated to the stock market and tends to rise when the stock market falls.
"The VIX gapped up today after holding up near 20. With no resistance until ~35, a greater increase in volatility appears likely," Stockton said. The VIX index surged 13% on Monday to above the 23 level as the S&P 500 fell nearly 2%.
The VIX tested support around 20 in recent weeks, which is seen as an all-important level that determines if systematic investment strategies will turn more risk-on towards equities. The VIX's failure to decisively fall below the 20 level means the current period of heightened volatility is likely to linger.