In late December several of the risk indicators we watch started showing extreme readings. These were all classical bounce set ups. Since then, equity markets, most notably the US indices, have all bounced violently higher.

What’s next?

Nobody knows what’s next, but we have over past 24 hours been laying out some of our logic for a possible fade in this violent bounce.

Below is a chart of the SPX since 2015. All bigger pullbacks (10% and more) have been playing out in a similar fashion. The bounce, post every sell off, has ended up with the following move lower revisiting the initial low mark (you can see it as a double bottom). The time period between the first and the second low has lasted for 22-32 days.

Let’s see if this time it is different.

During the autumn of 2018 we outlined how every bounce post the biggest equity markets falls since 2010 played out. We concluded that the DNA of the SPX sell offs and bounces all behaved very similarly.

The two major moves lower in 2010 were both followed by big bounces. The bounces reached a local high at the upper Bollinger band (see the boxes in the chart). The following retracement eventually took the index back to the first local low (the SPX moved from the box to the circle).

The big moves lower in 2015 and 2016 followed the very same pattern, a first bounce up to the Bollinger band and then another leg lower to revisit the first low.

The sell off a year ago showed exactly the same pattern as well as the move lower in October/November.

If SPX is to continue to follow the DNA of all major moves lower since 2010 as well as the subsequent bounces, there is some limited upside left if we are to test the Bollinger bands (note the Bollinger bands would come “down” even if markets consolidated for a few sessions). Should the move after that also follow the same DNA, we could expect the SPX to revisit those panic Christmas lows in early February.

Given the fact the dynamics have been playing out in a similar fashion since 2010, the recent pullback in global equity volatilities could prove to be a great trade to revisit. Gamma is king!

 Source; charts by Bloomberg