Public Enemy No. 1 is Ready to Squash Your Gains (Again)

Another week, another record high for the Dow and S&P 500 Indices. Now what?

Many pundits believe a pullback is imminent. Scratch that. The increasing consensus is that we’re ridiculously long overdue for one. And it’s creeping into investor psyche, too.

Case in point: Bullish sentiment dropped for the third straight week, according to the American Association of Individual Investors (AAII).

If you’re also increasingly wary of a selloff, I don’t blame you.

After all, we’ve always been told that bull markets don’t go up in a straight line. And it seems like forever since we’ve had a pullback (a decline of at least 5%), or worse, a correction (a decline of at least 10%).

There’s one big problem, though. Making investment decisions based on intuition is a surefire recipe for disaster.

No matter how intense of a gut feeling we get, we need to make sure the data backs it up before we act. Otherwise, we promise to be our own worst enemy.

As it’s Myth Busting Monday, let’s go ahead and put the conventional wisdom to the test to determine if we’re truly overdue for a selloff.

Fair warning: Even I was shocked by my findings…

Don’t (Ever) Trust Your Gut

We can all agree that market dips are inevitable. And normal. Yet, I’m pretty sure none of us are hardwired to know the average number of trading days to expect in between selloffs.

So, first, we need to calibrate our internal investing clocks…

According to Deutsche Bank’s David Bianco, there’s an average of 118 trading days in between dips of 5% (or more) and 357 trading days in between dips of 10% (or more).

And now you know. But knowing is only half the battle.

Before we can tell if we’re overdue for a selloff, we need to figure out how long it’s been since we’ve actually experienced one.

It turns out we’ve gone almost 100 trading days without a pullback and about 380 trading days without a correction.

In other words, we’re getting awfully close to the averages. So investors’ fears seem completely reasonable right now. Same goes for comments like those by Frank Fantozzi of Planned Financial Services: “I’m telling people to enjoy it [the uninterrupted rally] while it lasts.”

That is, until we learn that the standard deviation for the number of trading days in between dips since 1960 is, well, huge!

For 5% dips, it’s 92 trading days.

For 10% dips, it’s 387 days.

Based on that, it would hardly be a statistical anomaly if we went another 100 trading days without a pullback and another 380 days without a correction. Shocker, I know.

What’s even more shocking is that the longest streaks without a pullback or correction check in at more than 350 days and 1,600 days, respectively. So it’s possible to go another 250 days without a pullback and a staggering 1,200 days without a correction.

Bottom line: Just because it feels like we’re long overdue for a pullback or correction doesn’t mean it’s true. To the contrary, the data reveals that it would be perfectly normal if we went a lot longer without a selloff. So don’t trust your gut and bail on stocks prematurely. It could cost you dearly.

Ahead of the tape,

Louis Basenese

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Another week, another record high for the Dow and S&P 500 Indices. Now what? Many pundits believe a pullback is imminent. Scratch that. The increasing consensus is that we’re ridiculously long overdue for one. And it’s creeping into investor psyche, too. Case in point: Bullish sentiment dropped for the third straight week, according to the...