Do Not Blame China For Your Missed Opportunity To Reduce Risk | ETF Trends

Some are crediting me with calling the 6-day mini-crash. On the contrary. When I wrote “15 Warning Signs Of A Market Top” on August 18, the intent was to discuss micro-economic (corporate), macro-economic, fundamental and technical reasons for reducing one’s overall allocation to riskier assets. I did not predict the epic fall from grace for the S&P 500 SPDR Trust (SPY).

Based on a Relative Strength Index (RSI) level below 17 – based on the fact that we are approaching lows not seen since October’s “Bullard Bounce,” one should anticipate a jump higher. Equally compelling? Since the bull market’s inception (3/9/2009), the S&P 500 has only closed in its 3-standard-deviation range (0.13% chance of occurrence) twice. It happened at the tail end of the euro-zone sell-off on 10/3/2011; it happened again today, on 8/25/2015.

Yes, you’re going to see higher prices in the immediate term. Relief rallies happen.

On the flip side, it’d be foolish to think that a jump off of the floor will be enough to restore the bull market uptrend. Institutions, private clients and hedge funds will need to shift from net sellers to net buyers; they were net sellers in July and August. The pattern of decreasing revenues and decreasing dividends at corporations will need to show marked improvement. Credit spreads need to stop widening and perhaps begin to narrow, demonstrating greater confidence in borrower creditworthiness. And speaking of borrowing, the Federal Reserve will need to come up with a way to inspire as it raises overnight lending rates. A plan for a one-n-done hike across a six-month span? Perhaps an offer to move at a snail’s pace of just one eighth of a point every other meeting?

The media may choose to pin all of the blame on China’s stock market collapse. Indeed, interest rate cuts, trading halts, short-selling bans, currency devaluation, looser lending rules and share-buyer incentives have done little to stop the exodus. Keep in mind, though, Chinese equities via db-X Trackers Harvest CSI-300 A Shares (ASHR) crashed in June and July. The S&P 500 was within 1%-2% of its all-time high less than a week-and-a half ago. It follows that there’s a whole lot more to the extreme selling pressure than drama on the Chinese mainland.

ASHR 8-25

The reality is that the financial markets had been telegraphing distress in dozens of meaningful ways for months. The Dow Transportations Average had been sickly since the first quarter earnings season, suggesting that manufacturers were not delivering as many goods for worthwhile profits. By early June, broad-based energy corporations in the Energy Select Sector SPDR ETF (NYSEARCA:XLE) had climbed off of March lows, but they were still mired in a sector-specific bear that began in late 2014. Equally disturbing, at one point in June, the price-to-book (P/B), price-to-sales (P/S) and price-to-earnings ratios (P/E) for the ‘median’ stock on U.S. exchanges had never been higher. Not even during the delusional dot-com days of 2000.

As investors were entering July, troublesome deterioration began occurring in market breadth. The Bullish Percent Index (BPI) for the S&P 500 still showed a bullish reading above 50% (59%), yet less and less S&P 500 components had been forging uptrends. Prominent sectors like the Industrial Select Sector SPDR ETF (NYSEARCA:XLI) began pushing 8% corrective levels on weak wages and weak manufacturing data. Later in July, foreign developed stocks were dropping precipitously and diverging from the U.S. market, highlighting the fading enthusiasm for euro-zone quantitative easing (QE). And high yield bond distress was a clear indication of credit risk aversion.