A Minor Pullback and the Abandoned Baby

This week, the market saw its fifth-largest pullback since the start of 2019. The S&P 500 peaked the day before Thanksgiving and fell about 2.80% over the following three sessions. We've been quite bullish on Stocks over the past few months, and this recent pullback hasn't changed our outlook. If anything, we view it as healthy, and necessary for the broader market to continue higher.

Below is a chart of the S&P 500 from Frank Cappellerri of Instinet that shows all the significant pullbacks in 2019. As you can see, the recent dip was shallow and quick. However, many were caught off guard with the Volatility Index ($VIX), spiking over 50% in just four days.

The pullback was only 2.80%, even less if you measure it on a closing basis, but, it felt jarring because market participants hadn't seen a move of that magnitude in a while. In the tweet below, John Kicklighter of DailyFX.com points out that the S&P 500 still hasn't seen a daily move of 1% or more, in months. Even the recent pullback didn't break this streak, with the index only falling 0.86% on Monday, and 0.67% on Tuesday.

The market was in a low-volatility environment in the two-months leading up to the pullback. Luke Kawa of Bloomberg shared this chart a few days before the selling began. He highlights the fact that the $VIX had fallen below 12 to a level where it has spiked from over and over again.

So, what makes us think the selling might already be over?

During the pullback, traders got a bullish signal from a Japanese candlestick pattern known as a Bullish Abandoned Baby.

Similar to an island reversal, this pattern is made up of three candlesticks. The first is a large red candle, followed by a doji that gaps below the first candle. The third candle must gap above the doji candle and follow through to the upside. The pattern signals that buyers have regained control.

Here's a closer look at what we're talking about on a daily chart of the Dow Jones Industrial Average. As you can see, Monday was the big red candle; Tuesday price formed a doji candle, and on Wednesday, price gapped back above Tuesday's range and moved higher.

A doji candle is a candle that has the same opening and closing price. It symbolizes indecision between buyers and sellers. When that day is followed by a gap up, it's clear that price has resolved in favor of the bulls.

We're not simply basing our bullish thesis on a candlestick pattern with a funny name. There are several other things that are keeping us bullish on Stocks, including; the primary uptrend, Stocks breaking out around the world, and bullish seasonality. This chart pattern gives us further evidence that buyers are in control and that the risk is to the upside.

We'll continue to keep an eye on this and report back with any major developments. As always, feel free to contact us with any questions.