Would you be prepared if the Dow Jones Industrial Average fell another 4,000-plus points?
That kind of decline sounds shocking. But it’s instructive because it points to an important element of investing: preparedness.
The Dow has fallen more than 4,000 points from its high this year — all of it in the fourth quarter. In mid-October I suggested that investors be prepared for a sudden downdraft, asking in a column “Would you be prepared if the Dow Jones Industrial Average were to fall 5,700 points?” I chose that number because the Dow fell 23% on Black Monday in October 1987, equivalent to about 5,700 points today.
I also warned against what passive investing can do to the market. If you are a regular reader, you already know this and hopefully took protective steps when the market was near its highs.
For today, the more important question is: “What to do now?” Let’s explore with the help of a chart.
Chart
Please click here for an annotated chart of S&P 500 ETF SPY. Similar conclusions can be drawn from the charts of Dow Jones Industrial Average DJIA, -1.81% Nasdaq 100 QQQ and small-cap ETF IWM. Please note the following from the chart:
• The chart shows a number of warnings issued by The Arora Report at the market top and since then.
• All of the calls can be easily verified by anyone.
• The chart shows that RSI (relative strength index) is very oversold.
• When the market gets very oversold, sharp rallies often ensue.
• Based on a large number of factors, such as technicals, sentiment, put/call ratios, smart money flows, momo (momentum) crowd money flows, short squeezes, new economic data, positive notes from China and fundamentals, the stock market was set up for a sharp rally. Then the news from Washington called the setup in question.
• The setup for a sharp rally is still there if there is the slightest bit of positive news.
Ask Arora: Nigam Arora answers your questions about investing in stocks, ETFs, bonds, gold and silver, oil and currencies. Have a question? Send it to Nigam Arora.
The real reason
There is some slowing in the economy, data show. However, the real reason for the selling is that investors over-own popular stocks. The analogy of everyone on one side of the boat — which I explained regarding tech stocks to Becky Quick on CNBC — applies to all popular stocks and the indices.
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