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Is a stock market correction on the way?

August 31st, 2009 · Greg Atkinson · 4 Comments

The ASX All Ordinaries Index has rallied around 40% since hitting a low in March this year and so investors are starting to wonder if a market correction is on the way. The simple answer is yes, because the fact is there is always some form of stock market correction just around the corner.

Even in bull markets it is quite common for investors to take profits or sell stocks when they become nervous, so as I have mentioned before anyone can make an open ended call about a stock market correction and claim to be proved right when eventually the market dips.

Now as we enter September the correction clowns are out in force yet again. Prepare for an overdue correction they say, but rarely do they ever define by how much the market will correct or mention that historically bull market corrections are quickly reversed.

I am not saying anyone who predicts a correction is a clown, in fact I have a lot of respect for people who correctly spot corrections early and can gain from them. A correction clown in my view is someone who simply makes a prediction of a downturn that is so vague, that it is almost impossible for them not be correct given enough time.

I also have little time for people who use the term “correction” as a way to increase sales. If you have visited a few investment related websites then you have probably come across a statement something like this:

“The market is now overdue a for correction and investors will need to have the right tactics if they are to avoid losses and make the right trades”

Quite often a little further into the article there will be…drum roll…a link to just the newsletter you need to sign up for to help you profit from the next correction!  It will only cost you $xxx but you will quickly make that money back in no time..so they  say anyway. I wonder how many of these sites will compensate you if you lose money? None I guess.

Well since I am not selling anything please allow me to use a some charts to illustrate a few things about stock market corrections. Firstly if you have not done so before,  may I suggest you read my earlier blog: Bull markets, bear markets and stock market rallies. This may help you understand my views on a few other frequently used (and misused) stock market terms.

Now let us look at a chart of the All Ordinaries Index over the last few years.

ASX All Ordinaries Index – Monthly Candlestick Chart over 5 Years

all-ords-5-years-cadlestick-chart-aug-09

I am using a candlestick chart simply because it makes it easy to spot the months where the stock market fell. (i.e. the red marks) As you can plainly see even when the market is trending up there are months where stocks pull back, so calling a correction even in roaring bull market will pay off…just keep your prediction vague!

What this chart tells investors is that there is always a correction out there somewhere. Nobody knows exactly when it will strike or how far stocks will fall, but as sure as night follows day it will roll along.

Next let’s have a look at the S&P 500 Index from the U.S. stock market charted against the ASX All Ords Index.

ASX All Ords versus S&P 500 Weekly Closing Levels Chart over 5 Years

all-ords-vs-sp-500-aug-09

Apparently the month of September is not too good for the U.S. stock market and so it probably follows that our market also will struggle around that time as well.

Being a long term investor I tend to ride out corrections and use them to top up holdings rather than sell anything, but since there seems to be so much talk about a major market correction coming along I thought I would have a quick look at the S&P for the last few years to see if I should be worried.

On that chart above I have marked the corrections that have taken place over the last few years in or around September.  What is pretty clear to see is that around that time there often tends to be some type of market correction on the S&P 500 and this usually causes the Australian stock market to drop also.

Since ASX stocks have rallied around 40% so far I personally would not be surprised to see nervous investors selling in September, but for me that would be a sign to look for bargains if any popped up. I am not expecting anything more at this stage than a monthly fall of around 5% and I would be a happy camper of course if the market finished higher.

Finally let me be clear and say that I have the utmost respect for stock traders who use analysis to try and spot trends including corrections. If they can spot when a correction is coming and make money then good luck to them I say.

However I don’t have much time for people who make repeated vague predictions regarding stock market falls and then expect adulation when finally a correction comes along, especially when they are trying to sell something!


4 responses so far ↓

  • 1 Pete // Sep 3, 2009 at 3:09 pm

    Wow Greg, diverging into technical analysis?

    Personally I do not see the issue with being somewhat vague in predictions. How can someone say “on September 14th we will experience the start of the correction”? Anyone with that kind of impossible foresight would be a trillionaire.

    What is wrong with explaining the reasoning behind a prediction of an upcoming correction, and then suggesting it may happen within the next few months?

    From such a prediction we can deduce that
    a) the correction is predicted for Sept/Oct
    b) reasons that the correction is likely to occur
    c) reasons that the correction is not likely to occur

    Yes, suggesting a correction without a reason is just heresay – it doesn’t mean anything. But advice that a correction is coming that supplies reasons allows us to decide for ourselves, based on the reasoning. If we agree with the reasons, but then find contradictory information, then we can ignore the prediction. However if we agree with the reasoning and nothing contradicts the reasoning, surely we should be concerned?

    Just looking at some charts over the boom years and suggesting that a few Septembers ago the corrections were minimal – says nothing. Why not predict DOW 20K while you are at it? We could have a look at US property charts for those years and make all sorts of assumptions. Would you invest in US property right now?

    Charts are useless unless you use them with context.

  • 2 Greg Atkinson // Sep 3, 2009 at 4:36 pm

    Pete, I never suggested a date had to be set when predicting a correction, but at least people could try and narrow the time frame down to a few months and give an estimation of how large the correction will be. By staying vague it means people can claim to be right no matter how large/small the correction is any time within 6 months or so!

    I used the charts in my blog to simply illustrate that corrections occur often and thus it is hardly difficult to say one might be coming if you give yourself enough time and don’t set a range for the correction.

    Sept/Oct for some reason seems to through up corrections, it’s a fact, and since every fund manager knows this it is worth keeping in mind.

    Since I do not follow the U.S markets in detail I stay away from guessing where the Dow might go.

  • 3 Pete // Sep 3, 2009 at 7:13 pm

    Greg: Well you are right that being vague ensures that people are always right at some point.

    But…I think that sometimes you are putting everyone who is vague into the same category here.

    For instance, most people calling the next correction expect a significant correction, not just a little blip in prices. The timing of such things is really tricky.

    Just like timing a correction in the housing market. If there is one thing I have learned from way back in 2007 it is that these things can take time. People can string things along for a lot longer than expected.

    But that does not mean that the fundamentals behind the prediction of correction are wrong, just because a correction does not occur immediately. They are only wrong if the reasons they provide are invalid.

    Personally I do not see things as a right or wrong anyway. I take it all as advice that I can choose to follow or not. As I am the only one I believe is qualified to manage my money, I make the decisions. And the main reason I argue with anyone here online is not for personal satisfaction but to provide readers a point of view (information) for people to consider when making their own investment decisions.

  • 4 Greg Atkinson // Sep 3, 2009 at 9:44 pm

    Pete I only get annoyed when I see people using vague predictions as a sales pitch. I appreciate at times we have no choice but be a little vague when we talk about stocks, real estate etc. and I have no problem with that. I only have a problem with serial offenders 😉

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