Hot Inflation Torches Bears in a Stock Reversal for the Ages

(Bloomberg) — It was a stock reversal for the ages: A near-uniform plunge followed by an everything rally made for a dizzying day on Wall Street.

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The S&P 500 wiped out a 2.4% loss, marking the first time since July that it reversed a decline of 2%, and closed a whopping 2.6% higher. The initial rush to sell, followed by a dash to buy, was best illustrated by the second-to-second readings on share moves. The so-called Tick index, which compares the number of equities rising versus those falling in any moment, hit minus 1,900 before surging past 1,900.

Never before has the market experienced such extreme readings in both directions in one day, according to Bloomberg data going back to 1990. Meanwhile, the Dow Jones Industrial Average surged about 1,400 points from the day’s low.

What’s behind the turnaround is debatable. Some point to chart support or options hedgers, who needed to unwind short positions when investors booked profits from put options during the earlier selloff. Others say early results from the earnings season offer bulls hope.

Whatever the reason, it’s pain for bears who found their stance validated by a stronger print on the consumer price index, only to see their profits evaporate in a matter of hours. As the market bounced back, short sellers were forced to cover their positions to limit losses, a process that only added fuel to the gains.

“There were so many people set-up for a big decline after the CPI number that when it didn’t see any downside follow-through, the short sellers panicked and started buying,” said Matt Maley, chief market strategist at Miller Tabak & Co. “There’s no question that traders got caught offside in a major way. In football, offside is a only five-hard penalty, but today, it was like they got penalized for a 40-yard pass interference penalty.”

A Goldman Sachs Group Inc. basket of most-shorted stocks dropped as much as 5.4%, before paring all the losses to end Thursday up 1.4%.

The session offered a dramatic lens into the harsh life of equity skeptics in 2022’s bear market. While their cautious stance has reaped gains during the nine-month, $15 trillion selloff, sporadic agony like this has occurred when the market made sudden turns.

This time, the stress was more abrupt and pronounced, spanning almost every stock during the course of one single day. During the morning selloff, more than 400 members in the S&P 500 saw their shares in red, potentially handing wins for short sellers. At the close, however, 470 stocks were in green.

Read more: Big Hedges, 50% Charts, Decent Earnings: Behind the Stock Bounce

An all-or-nothing market has become a feature for 2022. The number of days where more than 400 companies of the S&P 500 move in the same direction have shown up more often than any years since at least 1997. That pattern was just on display within hours, exacting a harsh toll on anyone who dare to time the market.

Maley says the dramatic reversal didn’t change his pessimistic view on the market, though the about-face highlights the importance of paying attention to dynamics like investor positioning and chart patterns.

“Those people should have known that the technical setup made the market ripe for a bounce and so they should have covered their shorts at/near the opening,” he said. “Bear markets do not bottom until the stock market becomes cheap. With earnings very likely to fall in the coming weeks and months, this market is not cheap at all.”