Today's MDD was the first since the mid-November low in $SPX. A few points:
- Yesterday, SPX formed a new high. Today, all those gains were given back on trading dominated by sellers. This, in the past, has been a bad combination. See the first chart below (red arrows). Selling momentum typically carries over into the following period.
- Today's set up is eerily similar to April 2010 and February 2011. See the first two red arrows on the first chart: a long, grinding uptrend capped by a MDD. April 2010 double topped within a week; February 2011 began a multi-month topping process. Either one of these is a possibility.
- Not all MDD's are the same. After a downtrend, an MDD can mark the point of capitulation. See the second chart below (green arrows). This was the case at both the June and November lows in 2012.
- Some MDDs are rogue and some come in clusters. See the red rectangles at the bottom of chart three. It should not be a big surprise that a cluster of MDDs will lead to a substantial decline in $SPX. We have to be on watch now for another day like today.
- Finally, today is day one of major selling in 2013, and its coming after a 7 week uptrend. Long uptrends like that, in the past, have not ended without at least a second attempt at the recent highs. Read further here and here.
A MDD right after a fresh high (red arrows) has typically led to further selling going forward. Note the April 2010 and February 2011 tops in particular.
After a downtrend, an MDD can make the point of capitulation (green arrows). This was the case at both the June and November lows in 2012.
Going forward, be on the watch for a cluster of MDDs to signal a substantial decline in the indices.