S&P 500 erases its gains for 2018; with index down 4.1% today, Wall Street looking for 10% drop from 2018 high

Is this starting to get serious? Wall Street still doesn’t think so. With the Standard & Poor’s 500 down 4.1% today, it has wiped out all of its 2018 gains. Wall Street continues to look for no more than a 10% drop for the January 26 high total decline. Which would mean that we’re way closer to the bottom than the top since today’s decline brings the total drop from the 2018 high to 7.8%

Reasons for this relative optimism on a day when the Dow Jones Industrial Average fell 4.6% or 1175 points include:

A drop in the yield on the 10-year Treasury to 2.71% today. That’s 14 basis points lower than yesterday (which means bond prices are higher.) If one reason for the market’s tumble is higher yields and the fear of higher yields yet ahead, then this pull back in yields on the 10-year Treasury should be supportive to stock prices.

A growing argument that the Federal Reserve won’t raise interest rates at its March 21 meeting, as expected before the Friday sell off, if the market is in a downturn. The argument may be perverse but it does make some sense–the best news for equities on interest rates is the plunge in equity markets.

On the other hand, the S&P 500 stock index did break through support at the 50-day moving average at 2676 to finish at 2648.94. A drop through this level opens the market up to a further retreat. On past history, on a break below the 50-day moving average we’re likely to be looking at a 10%. And we are seeing a rush to hedge against a further drop in stocks. The CBOE S&P 500 Volatility Index (VIX) climbed 115.6% today to 37.32 as traders and investors looked to hedge against a further drop in stocks. Using the VIX to hedge is a relatively positive move for markets, oddly perhaps, since the VIX looks only 30 days ahead and traders and investors hedge the S&P 500 when they really don’t want to sell underlying positions because they think a drop will be a relatively short-term event.

A couple of things worry me here.

First, international markets have responded to the sell off in the U.S. by selling off themselves. That sets up the kind of rolling declines as one market opens lower after another has closed lower that can keep a downturn going for a while. Second, the news out of Washington, which at the moment suggests either another short-term funding fix or a government shut down–with the debt ceiling crisis looming over everything and just about completely unaddressed–sets up the possibility of selling of U.S. stocks by overseas and domestic investors who worry that Washington is completely feckless.