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History shows recent rebound may be fleeting

Stocks have been beat up so badly this year some investors figure shares just have to rebound. Not so fast. There’s no question market pain is reaching levels that start to turn heads and cause investors to wonder if they should brace for more pain or start looking for opportunities to buy on the cheap. Due to the market’s sell-off, 67% of the 129 subindustries in the Standard & Poor’s 500 are trading below their average prices over the past 40 weeks, Sam Stovall of S&P Global Market Intelligence says. At its lows this year, 87% of subindustries were below their 40-week moving averages.

Such extreme levels of selling have signalled bottoms were notched several times in history, Stovall says. Stocks rallied in the months following such extreme selling after corrections that ended in 2003 and 2011, Stovall says. This is giving the bulls some confidence the rebound we’re seeing now is real.

But more recent history shows stocks can repeatedly fall to extreme oversold levels. During bear markets that ended in 2002 and 2009, the number of subindustry groups trading below their 40-week averages dropped to extreme levels twice. If these more recent examples are a guide, they indicate the recent rebound could easily lose steam and test the lows again. Stovall says investors shouldn’t take too much faith in the 40-week indicator.

“Little encouragement can be garnered” from the fact so many industry groups have dropped below the trading indicator, he says.