Is the Stock Market Decline a Cause for Concern?

Market Weakness and Investor Sentiment

The recent decline in the stock market, which began last Friday, has continued into the week as investors brace for two major events: Nvidia's earnings report on Wednesday and the Federal Reserve's favored inflation gauge release on Friday. These factors, along with recent economic indicators, have heightened investor concerns and contributed to market volatility.

Economic data over the past two weeks has painted a mixed picture, leading to increased uncertainty among both investors and consumers. The University of Michigan's Consumer Sentiment Index dropped 10% from January, signaling a decline in confidence. Additionally, retail sales posted their largest drop in two years, raising concerns about consumer spending trends.

Declining Bullish Sentiment and Market Correction

Investor sentiment has been on a downward trend since early January. The Consumer Confidence Index, released on Tuesday, fell to its lowest level since August 2021. A closer look at sentiment indicators reveals a steady decline: bullish sentiment peaked at 42.3% on January 22 and fell to 29.2% last week. Given this trend, a reading below 25% in this Thursday’s survey could signal the final stages of the current market correction.

From a technical standpoint, declining bullish sentiment within an overarching positive trend is often necessary for a healthy correction. A temporary pullback can serve as a consolidation phase before the market resumes its uptrend.

Market Breadth and Technical Analysis

Tuesday’s market decline was not broad-based, suggesting that selling pressure was concentrated in a few large-cap stocks rather than affecting the entire market. On the New York Stock Exchange (NYSE), 1,635 issues advanced while only 1,153 declined, but declining volume outpaced advancing volume. The Nasdaq Composite presented a more negative picture, with only 1,745 advancers versus 2,743 decliners.

Key technical levels also came into focus. The SPDR S&P 500 ETF Trust (SPY) reached a low of $589.56 on Tuesday, close to its October 2024 high support level of $586.12. During intraday trading, SPY fell well below its lower starc-band before recovering slightly to close at $594.24. Meanwhile, the S&P 500 Advance/Decline (A/D) line rebounded on Tuesday, moving back above its weighted moving average (WMA). If the A/D line surpasses resistance, it could signal the end of the recent market pullback.

Additional support exists at the lower A/D trendline, which could help stabilize the market. Similarly, the daily NYSE Stocks-Only A/D line and the NYSE All A/D line remain slightly below their exponential moving averages (EMAs), indicating that broad market weakness has not yet fully taken hold.

Sector Performance and Large-Cap Stocks

The NYSE Composite managed a modest gain of 0.33% on Tuesday, contrasting with losses in the Nasdaq 100 (-1.24%) and the S&P 500 (-0.47%). This divergence suggests that weakness is concentrated in select large-cap tech stocks rather than across all sectors.

One notable indicator is the performance disparity between the Invesco QQQ Trust (QQQ) and the First Trust Nasdaq 100 Equal Weighted ETF (QQEW). This month, QQQ has declined 0.44%, while QQEW has dropped by a more significant 1.72%. Year-to-date, QQEW has outperformed QQQ (up 5.36% vs. 0.41%), highlighting a shift in investor preference away from megacap stocks toward a broader range of Nasdaq 100 components.

Nvidia and Market Outlook

Nvidia (NVDA) remains a focal point ahead of its earnings report. The stock is down 5.8% this week and is approaching oversold conditions after testing its daily starc-band. While an earnings-driven rebound is possible, intermediate-term analysis suggests that NVDA may test its yearly pivot level of $114.89. However, the current decline appears to be a correction rather than the formation of a major market top.

Conclusion: A Healthy Correction or a Warning Sign?

While recent market weakness has raised concerns, the broader technical and sentiment indicators suggest that the decline remains a correction within a longer-term uptrend. The fact that selling pressure is concentrated in a few large-cap stocks rather than the entire market is encouraging.

Investors should closely monitor Nvidia’s earnings report and the upcoming inflation data for further direction. If earnings results are strong and inflation remains contained, the market may find support and resume its upward trajectory. However, continued weakness in earnings forecasts and economic data could prolong the correction.

Overall, while caution is warranted, the current market conditions do not yet signal the start of a prolonged downturn. Instead, this pullback may provide opportunities for strategic buying in sectors that have shown resilience.