Fridays and Mondays are the most important trading days of the week. A lot of traders will rebalance their portfolios at the beginning or end of the week, and then simply hold through the week. These days also signal something about the news environment. A down Friday typically signals that traders fear bad news over the weekend, and a down Monday signals that bad news has actually materialized.
In fact, Jeffrey Hirsch, author of The Stock Trader's Almanac and reigning king of stock market seasonality, argues that when a down Friday and down Monday occur together, it often signals a major stock market turning point-- occasionally a bottom, but more commonly a top:
"For over 30 years, a down Friday followed by down Monday has frequently corresponded to important market inflection points that exhibit a clearly negative bias, often coinciding with market tops and, on a few climactic occasions, such as in October 2002, March 2009 and December 2018, near-major market bottoms. . . . Since 1995, there have been 248 occurrences of Down Friday/Down Monday (DF/DM), with 69 falling in the bear market years of 2001, 2002, 2008, 2011 and 2015, producing an average decline of 12.1%." Hirsch, Jeffrey A.. Stock Trader's Almanac 2020 (Almanac Investor Series) . Wiley. Kindle Edition. " (Hirsch, Jeffrey A.. Stock Trader's Almanac 2020 . Wiley. Kindle Edition.)
I've illustrated this dynamic on the chart. Note that there are definitely a few false alarms, but the signal does tend to coincide with inflection points. For instance, most of the significant market downturns in 2019 either began or ended with a down-Friday + down-Monday signal. In March 2020, a down-Friday + down-Monday signal both began and ended the major market plunge associated with the Covid-19 pandemic. And when the market turned downward in September 2020, the down-Friday + down Monday signal twice preceded a bounce.
So, beware, because this last weekend we had a down Friday + down Monday, so a correction may be coming in the near future. (In this case, I think the risk that traders are signaling is related to the possibility that Congressional negotiations for a new federal stimulus package might break down. We also had a major deterioration of jobs numbers last week.) This was a small downward move, and the size of the correction often corresponds to the size of the signal. So, probably don't rush to gamble on a 40% correction or anything crazy like that. But it might be a good time to own protection against, say, a 5% downward move.
In fact, Jeffrey Hirsch, author of The Stock Trader's Almanac and reigning king of stock market seasonality, argues that when a down Friday and down Monday occur together, it often signals a major stock market turning point-- occasionally a bottom, but more commonly a top:
"For over 30 years, a down Friday followed by down Monday has frequently corresponded to important market inflection points that exhibit a clearly negative bias, often coinciding with market tops and, on a few climactic occasions, such as in October 2002, March 2009 and December 2018, near-major market bottoms. . . . Since 1995, there have been 248 occurrences of Down Friday/Down Monday (DF/DM), with 69 falling in the bear market years of 2001, 2002, 2008, 2011 and 2015, producing an average decline of 12.1%." Hirsch, Jeffrey A.. Stock Trader's Almanac 2020 (Almanac Investor Series) . Wiley. Kindle Edition. " (Hirsch, Jeffrey A.. Stock Trader's Almanac 2020 . Wiley. Kindle Edition.)
I've illustrated this dynamic on the chart. Note that there are definitely a few false alarms, but the signal does tend to coincide with inflection points. For instance, most of the significant market downturns in 2019 either began or ended with a down-Friday + down-Monday signal. In March 2020, a down-Friday + down-Monday signal both began and ended the major market plunge associated with the Covid-19 pandemic. And when the market turned downward in September 2020, the down-Friday + down Monday signal twice preceded a bounce.
So, beware, because this last weekend we had a down Friday + down Monday, so a correction may be coming in the near future. (In this case, I think the risk that traders are signaling is related to the possibility that Congressional negotiations for a new federal stimulus package might break down. We also had a major deterioration of jobs numbers last week.) This was a small downward move, and the size of the correction often corresponds to the size of the signal. So, probably don't rush to gamble on a 40% correction or anything crazy like that. But it might be a good time to own protection against, say, a 5% downward move.
Comment:
The "excess inflection" associated with this signal is proportionally largest immediately after the signal, and then fades from there. Three trading days after the signal, we've got about a 30% larger magnitude of inflection than you'd expect at the average day pair. 18 days after the signal, excess inflection dwindles to just 7% as the market regresses to the mean.
3 days | 29%
8 days | 14%
13 days | 14%
18 days | 7%
23 days | 13%
28 days | 9%
As a percentage of the price of the index, these numbers are pretty small. You're getting about 0.6% excess inflection in those first three days as a percentage of index price. So, definitely a little more volatility than usual, but not huge and mostly evident on a short time frame. Perhaps enough to turn a profit on a quick option play.
3 days | 29%
8 days | 14%
13 days | 14%
18 days | 7%
23 days | 13%
28 days | 9%
As a percentage of the price of the index, these numbers are pretty small. You're getting about 0.6% excess inflection in those first three days as a percentage of index price. So, definitely a little more volatility than usual, but not huge and mostly evident on a short time frame. Perhaps enough to turn a profit on a quick option play.
Comment:
The put-call ratio on SPX has reached its highest level since 2014, which suggests growing bearish sentiment.
Comment:
Quick update on this:
December was a false positive, as were signals in July and August. But September signal occurred right at the top. Today the signal flashed again.
December was a false positive, as were signals in July and August. But September signal occurred right at the top. Today the signal flashed again.
I took market data for the last "y" years (where "y" is 3, 5, 7, or 10) and grouped it into a series of sequential (overlapping) pairs of days. Of these pairs, I identified which ones were DFDM.
For every day-pair in the sample, I then computed the change in price over the "n" days (where n = 3, 5, 7, 9, 11, 13, or 15) before and after the day-pair (not including the price change that occurred during the day-pair itself). I took the absolute value of the difference between the post-day-pair change and pre-day-pair change. This gave me a measure of the "magnitude of the inflection" or "change in momentum" that occurred at each day-pair in the sample.
I then subtracted the average magnitude-of-inflection for DFDM day-pairs from the average magnitude-of-inflection for all non-DFDM day-pairs in the sample. This gave me a measure of the "excess inflection" associated with the DFDM signal.
With my 4 different values of "y" and 7 different values of "n," I had a total of 28 model specifications. In every single specification, the average magnitude-of-inflection was higher for DFDM than non-DFDM day-pairs. Effect size ("excess inflection") ranged from $0.213 per share to $3.09 per share, depending on the model specification.
If anyone would like access to the R code, DM me.