Red Alert Signals in the Market
Not many events in life happen without warning. The Chaplain Towers South condo in Florida, Miami collapsed seemingly unexpectedly in 2021. History revealed warning signs of improper maintenance and structural damage years before the collapse. It is the same with any market. Before a market correction or bear market there are usually signs on the charts before it actually happens.
Traders armed with optimism ignore the red days and embrace the green ones. In order to keep our emotions in check, it’s a good idea to open an index chart to see the reality of the bigger picture.
These charts were used recently to monitor the current state of the stock market.
Please note the indicators used in the charts should not be used as stand alone signals for decision making.
At the beginning of the Covid crash in 2020, the blue lines of the short-term GMMA had crossed over and through the long-term GMMA. The order of the groups had changed with the long-term GMMA sitting above the short-term GMMA. This was the beginning of the longer downtrend.
In 2022, we have seen the same pattern emerging. The short-term GMMA has crossed over and sits below the long-term GMMA as a downtrend emerges.
Exponential Moving Average Crossover
According to Market Index, the exponential moving averages of 9 and 21 are known to work well on a weekly chart in the Australian market.
The crossover of the 9 EMA moving below the 21 EMA was last seen on the XJO weekly at the beginning of the Covid crash. It also marked the start of the Tech crash in 2002 and the start of the GFC in 2008.
These signals alerted me to the declining state of the market and were a warning sign to lighten short-term trading positions.
Longer Term Timeframe
For long-term positions or investments, a look at the monthly chart of the XJO showed the uptrend of the index was still intact. The Covid crash warning was obvious when looking back on the chart. Seeing the two long red candles and the short-term GMMA fall through the long-term GMMA suggested it was not a time to buy the dip.
Correction or Bear Market – A Wider Perspective
A correction is a move of 10% or more from a recent high. On this XJO chart, the correction level was calculated by projecting a 10% drop from the most recent high of 7629.
A bear market is entered into when the market drops 20% or more from the high. A close below the 20% level will see the XJO move into bear market territory. Once the market enters into this zone our strategies will change.
These chart signals could be the beginning of a larger correction or a path leading into bear market territory. On the positive side, it could be nothing but a minor market correction.
The Miami condo showed signs of land sinking long before the more recent warning signals. This in itself was not enough to predict the collapse though as the warning signs continued there was enough time to take notice and prepare a course of corrective action. Be alert to increasing warning signs in the market. If a major collapse of the index occurs then hopefully you will have seen it coming. Red alerts were early markers before many major collapses in the past. It didn’t happen suddenly and unexpectedly.