Just as a sharp sell-off does not promise a bear market, a quick recovery does not mean everything is all rosy again either. The reality is there is a process we typically go through for the market to find its footing following a steep decline.
As we often do, we look at history as a guide. While no two markets are the same, it is informative to see examples of market bottoms following prior market corrections.
One of the most famous market corrections was the 1987 crash. In October, the market made a deep plunge establishing a bottom later that month. The market rallied some before retesting the low point in December before ultimately turning back up again.
Take a look…
The next chart examines a similar process during the 1998 Asian currency crisis. Notice how prices fell during the months of July and August before establishing a bottom at the beginning of September. From there the market bounced higher until ultimately retesting the September low during the month of October. Then the market started to recover.
Here’s the chart…
Finally, let’s take a quick look at the last market correction we faced back in 2011. The market hit a peak in May and quickly dropped to establish an August low. The market started to bounce back until a retest of the low occurred in October. This time, the test moved slightly lower than the August low. Traders will often refer to this a setting a “lower low”. Fortunately, the market found its footing and climbed from this new low.
So what does all this mean for investors?
These charts serve as a reference of what has occurred in the past. If history proves to be a guide for the market this go around, we would expect to retest the intraday low of 15,370 set on August 24. It also tells us that markets often find their bottom during the month of October.
Now you know what to look for in a potential stock market correction bottom. We should expect the bottoming process to play itself out over at least a month or two and it will likely result in our testing the August lows.
The one major stipulation being that we are assuming this is just a market correction and not the start of a major bear market. To read our thoughts on this, read Are We Entering a Bear Market?
Here’s one final closing thought…
Q: What do the 1987, 1998 and 2011 corrections all have in common?
A: Following each correction the market ultimately moved to new highs.
