Market Volatility: S&P 500 Facing Critical Test

The S&P 500 index has been caught in a prolonged period of selling throughout October. In order for a potential turnaround to occur, a major hurdle needs to be overcome, according to Bank of America.

The bank's strategists, led by Michael Hartnett, have warned that if this hurdle is not cleared, a larger drop in the market is imminent. They previously noted that the environment was highly bearish, triggering a contrarian buy signal.

Hartnett specifically pointed out that the S&P 500 SPX has been unable to maintain its position above the 4,200 level. On Wednesday, after mixed earnings from tech giants Alphabet GOOGL (-0.41%) and Microsoft MSFT (+1.85%), the index closed below this important level and has yet to recover. Despite some modest gains on Friday, the Nasdaq Composite remains firmly within correction territory.

The equal-weighted S&P 500 XX:SP500EW holds the key to determining the index's next move. Hartnett emphasized that if it fails to hold at 5,540, the widely watched S&P 500 risks dropping towards its 200-week moving average (WMA) of 3,941. This would result in a nearly 5% decline from Thursday's close of 4,137.23. Unlike the market-capitalization weighted S&P 500, which is largely influenced by big tech stocks, each stock carries equal weight in the equal-weighted version.

Chartists use the 200 WMA as an indicator to observe longer-term trends for the index. Once this level is reached, it may trigger a potential trading rally for investors.

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Market Trends: Bank of America Reports Significant Changes in Investment Flows

Bank of America has recently revealed some significant shifts in investment flows. According to their report, during the latest week, $2.1 billion was withdrawn from equities. At the same time, a substantial $29.2 billion was invested in cash, and an additional $2.2 billion was allocated to bonds. It's important to note that the inflow into bonds represents the largest weekly increase since March 2023. Interestingly, there has also been a positive inflow of $500 million into gold, marking its first increase since May 2023.

Seasonality May Influence Stock Market Activity

With the end of the year drawing near, some market participants are speculating that seasonal factors could impact stock market activity. It is often observed that the final months of the year tend to encourage buyers to enter the market, particularly money managers who aim to enhance their portfolios by purchasing winning stocks and selling underperformers.

In a note to clients, Jim Reid, a strategist at Deutsche Bank, highlighted that Friday serves as the official start of a seasonal upturn for stocks. He referred to this as the "Santa rally," which typically occurs in the last few days of the year and the initial days of the new year.

For investors concerned about the turbulence witnessed in the markets since the summer, Reid provided a chart depicting historical trends:

"The S&P is currently trading at levels last seen in May and initially breached earlier this year in early February. As today's Call of the Day demonstrates, the period of stagnation we've experienced since the summer is not uncommon. In an average year, equities remain flat from early July to late October, often followed by declines in the latter half of that period," explained Reid.

While Reid acknowledges that there may be underlying structural issues contributing to recent equity declines, he also emphasizes the importance of considering seasonal trends. He suggests that both factors should be taken into account when assessing future market movements.

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