The stock market has more downside coming as investors chase the dip rather than throw in the towel, Bank of America says
- The stock market has more downside ahead as investors have yet to throw in the towel, according to Bank of America.
- The bank sees the potential for the S&P 500 to fall to 3800, representing 12% downside potential.
- "Both late January and late February had big gap downs followed by upside reversals. However, neither period showed true capitulation," BofA said.
The stock market likely has more downside ahead as too many investors favor buying the dip rather than selling the rip, according to a Monday note from Bank of America.
The bank noted that while the S&P 500 staged large sell-offs in late January and February, they were followed by upside reversals that made a series of lower highs. That's a key indicator that the trend in stocks has turned downward, at least in the short-term.
"Both late January and late February had big gap downs followed by upside reversals. However, neither period showed true capitulation or a washout day... to increase our conviction in a more sustainable low," Bank of America's Stephen Suttmeier said.
Instead, the recent price action in stocks suggests while "a" short-term low has been seen in the stock market, "the" low has yet to be reached.
And while Suttmeier does see more downside risk ahead for the stock market as investors grapple with rising geopolitical tensions between Russia and NATO countries, the VIX index is showing signs that a potential relief rally could materialize. But that relief rally will be met with strong resistance.
Altogether, the recent price action raises Suttmeier's conviction that if a tactical rebound in the S&P 500 stalls below key resistance near 4600, "the risk remains for a deeper drawdown to 4000 to 3800," according to the note.
That represents potential downside of as much as 12% from current levels for the S&P 500, and the losses would likely be even more for the tech-heavy Nasdaq 100 index. That's because the Nasdaq 100 has no exposure to energy stocks, which have been surging amid a rise in oil prices.
Suttmeier would turn more constructive on stocks if a real washout day is observed in the stock market, represented by a more than 90% down day in New York Stock Exchange listings, signaling that investors are starting to get tired of down-trending stocks and they sell instead of buy.
But for now, investors are still buying. A Tuesday note from Bank of America's Savita Subramanian observed that the banks private clients have been net buyers of stocks every week so far this year, and that "the buying of this dip was more aggressive than in prior pullbacks."
While investors are still positioning themselves for a rebound in the stock market, investor sentiment has been on the decline. CNN's Fear and Greed Index currently stands at 18, which represents "Extreme Fear," and the AAII investor sentiment survey saw bearish readings near a 9-year high.
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