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Kass: Gauging the Weakness

This column originally appeared on Real Money Pro at 7:50 a.m. EDT on Aug. 19.

NEW YORK ( Real Money) -- Was last week's market drop the real thing (a harbinger of a more significant market decline), or will it just be another nervous market breakdown (which will/should be bought)?

This is the important question that investors and traders are asking themselves this morning.

Risk Happens Fast

For nearly a month, the markets have appeared undecided, with mixed economic data, conflicting sector price action (and an apparent leadership change), steadily weakening market breadth and swiftly rising interest rates characterizing the market and economic landscape.

The one-month period appears to have been resolved to the downside on Thursday (a day in which the U.S. stock market gapped lower and closed near the day's low, all on heavy volume) and on Friday (a day in which the U.S. stock market closed on its low).

It's Different This Time

Last week, I outlined my expectations that the market had topped for the year.

I am sticking to that forecast.

The recent market swoon appears to be different than previous corrections, as measured by the eroding technicals, weakening fundamentals (and disappointing earnings) and wavering sentiment indicators.

Deteriorating Technicals

A bad technical sign was that, by the end of the week, the total NYSE new lows reached the highest level since June. Another profoundly negative signal was the bearish divergence between poor breadth and a market high in the weeks leading up to Thursday's schmeissing. Importantly, Thursday's down move looked like a breakaway gap (with only a limited attempt to reverse during the day), which historically signals an early/beginning trend vs. an exhaustion gap, which is more typically seen at the end of a move.

Weakening/Mixed Fundamentals

Away from a battery of deteriorating technicals, there have been developing core fundamental challenges that look different than in previous periods of market weakness.

Further pressuring and forming the likely catalyst for a drop in the market was a string of disappointing earnings from several high-profile companies, including Wal-Mart (WMT - Get Report), Macy's (M - Get Report), Cisco (CSCO - Get Report), IBM (IBM - Get Report), Google (GOOG - Get Report) and Amazon (AMZN), among others. This is consistent with my theme that the consensus outlook for corporate profits remains too optimistic. (The cover story in Barron's agrees with my concerns.)

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Chart of I:DJI
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