S&P 500 crash tests bear market territory

The chart above highlights that the S&P 500 (US 500) as declined by more than 20% over the last five months.

This meets the standard definition of a technical bear market i.e. a more than 20% correction from a high. Some definitions do however suggest that a bear market needs to be a 20% correction from a recent high. ‘Recent’ being the high a couple of months or around sixty days ago.

The correction on the S&P 500 has taken longer than this, with the price taking around 5 months to reach this dubious milestone. We do still however consider the index to be in or at least testing bear market territory right now.

Does a bear market on the S&P 500 mean a recession to follow?

The below chart highlights 20% pullbacks on the S&P 500 and how these corrections/ crashes or bear markets correlate with recessions in the US since the 1970s.

Since 1972 a monthly chart of the S&P 500 shows that there have been eight bear markets (excluding current market move). The eight bear markets correlate with seven recessions. The crash of 1987 (Black Monday) is the outlier, as the markets fell by more than 35%, but there was no economic contraction to accompany the move.

It should be noted that, while there is correlation between bear markets and recessions, most of these bear markets only confirmed within their accompanying recession (as marked with black arrows).

When we look at where we are currently, the S&P 500 has fallen by over 20% and the US has reported an economic contraction for the first quarter (Q1) of 2022. Consensus forecasts do not predict an economic contraction in the US for second quarter (Q2) 2022. However, persistently high inflation begets what has been an accelerating pace of monetary tightening which is currently equating to fears that growth will be negatively impacted further forward. These concerns are being priced into markets right now.

How to trade the S&P 500

After breaking down from the range highlighted between levels 4205 and 4070, we have seen an aggressive decline to follow on the SP 500 Index. The sharp move lower is currently breaking support at 3875 and leaving a price gap from the 3900 level. The move lower suggests the failure of previously guided upside break of our dotted trend line.

A close below 3875 considers 3730 as a the next support target from the move.

The Index is looking oversold at present, although this is not considered an indication to trade against the prevailing downtrend. Instead traders might consider using a rebound from oversold territory (should it occur) to find short entry, unless gap resistance is broken with a close above the 3900 level.