Frank & all;
Don't know how many are getting this from Money Online but it does do a faily good analysis:
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Friday, November 14, 1997 8:45 EST
Last month's correction may not be the last
Analysts say market lows are often "retested" - and some expect that to happen now
by Michael Brush
What a month! It seems like every day brings something new for investors to worry about. Just as the Asian currency crisis seemed to settle down, tensions with Iraq arrived and now hang in the air. And if that confrontation boils over into violence, of course, the stock markets are likely to sell off sharply.
But even if it tensions with Iraq don't tank the markets, we may soon see some more serious selling pressure similar to what occurred at the end of October. Indeed, many stocks have already gone back to testing those lows.
And if the markets slip, it may not come in the form of a quick two-day decline this time around. Instead, the retesting of the old lows may occur as a gradual eroding or ratcheting down. Whatever form it takes, another dip could easily occur -- bringing fear to
some, and buying opportunities for the brave. Here's why it could happen.
* Markets simply have a habit of retesting lows after a major sell off. "If you look back, usually when you have a vicious or emotional decline that gets to a climactic low, there is the initial snap-back rally because there is a vacuum on the upside," says Richard
McCabe, a technical analyst with Merrill Lynch. "That usually lasts a few days. There is almost always a retest."
After the last major sell off -- in October 1987 -- the markets bounced back but then tested the October bottom in November. Then they actually went below the October low on December 4, points out Eric Miller, the market strategist with Donaldson Lufkin & Jenrette.
Why does this happen? There are three basic reasons, all based on investor psychology.
First, investors who didn't sell on the first decline, but got spooked by it nevertheless, will sell into the rally that follows, happy to get out. Second, traders who bought on the way down or at the lows will sell off on the bounce to take profits. Finally, the
initial correction may have convinced some technical analysts that the market tone has changed. So they too clear out on the rebound, to play it safe. All three of these effects are what push the markets back down toward the previous low.
Stocks may not sink all the way back to the bottom during a retesting. Or they may go even lower. If they do fall below the previous low, investors have to figure out if this is the start of a new, more serious crisis. To do so, they compare volatility, volume, and
the number of new lows this time around with the previous dip (there were 300 on October 28). If they are all less than the first time around, then this dip is probably just a retest.
* Another reason a market slide could be on the way is that healthy stock market corrections typically end in fear, points out David Shulman, market strategist with Salomon Brothers. In contrast, investors were bullish during the recent October 28 bottom. Not only was the individual investor jamming up the phone lines trying
to buy, but five leading strategists increased the stock weighting in their model portfolios. "So we suspect that the correction is far from over," says Shulman.
McCabe says that fear could enter this correction, if the market moves down - and stays there awhile. And that could be a good thing. "A retest spread over a few weeks or more should increase worries and cause the majority to abandon their buy-on-weakness
strategy," he says. "This is how a good bottom is made."
A word of caution is in order, of course, when looking at the past to try to figure out what will happen next. Alfred Kugel, the senior investment strategist with Stein Roe & Farnham points out that this bull market has already broken many precedents. So it may not be a great idea to rely on history to show us how the markets will react to the sell off of October 27-28.
Where do we go from here?
Once the period of testing the old lows is behind us, many market strategists believe the markets will return to another bull phase. "If things get calmer in Asia and nothing new breaks loose in Brazil, I think people will stop worrying about the underdeveloped countries before the end of the year and start focusing on the fundamentals in the U.S.," says Kugel. "And the fundamentals are very good."
Bargain hunting investors, in essence, rescued the market on October 28, agrees Louis Navellier of Navellier Securities. But that inflow will slow down and the market will pull back and digest its short-
term gains. Around Thanksgiving, he expects the volatility to subside. In the meantime, he says bargain-hunters should focus on small cap stocks, which typically take longer to bounce back than their
big-cap brothers.
"I think November will be this backing and filling, testing and retesting month," says McCabe. "And then a meaningful, more durable new phase will start around the end of the year."
Regards,
dmg
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