Price action in the stock market indicates normal conditions and away from critical levels, according to an indicator based on absolute daily returns.
The indicator value is the count of absolute daily S&P 500 returns less than 1% in a 252-day period, as shown in the chart below:
Since 1950, the average of the indicator is 51.35 with a standard deviation of 32.09. The current reading is 60, which is far from critical levels of one standard deviation from the mean to the left and two standard deviations to the right from the mean.
It may be seen that often values of the indicator above two standard deviations away from the mean to the right occurred at market bottoms, an effect also known as “volatility clustering.” Values of the indicator less than one standard deviation away from the mean to the left often occurred near tops. The current value is in a “safe” region and signals “business as usual” for the stock market.
There is at least one notable exception during the early 1990s. The indicator value fell near levels that signaled a top but then a powerful uptrend started. But the 1990s is an outlier and unlikely to repeat. In addition, the effect of that outlier was the subsequent two market crashes in 2000 and 2008 because of the excesses that were accumulated. The stock market is trying to put all that behind and erase it from memory. However, many ruined investors during the last two major market crashes have not forgotten. It will take time for the stock market to erase those bad memories that have resulted in decreased participation from the public. The Fed and professionals know that another crash will signal the end of stock market credibility as a sound investment vehicle for many years to come. They will do anything they can to avert such event, including letting inflation rise if necessary without trying to curb it with rate hikes.
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