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3 Reasons Dow Jones’ Sudden Recovery Stinks of a Dead Cat Bounce

Last Updated September 23, 2020 1:40 PM
Joseph Young
Last Updated September 23, 2020 1:40 PM
  • The Dow Jones Industrial Average rallied for a second consecutive day, but this recovery has three components of a dead cat bounce.
  • Record outflows from asset managers are still being recorded, while the coronavirus outbreak in the U.S. is not slowing down.
  • With California under lockdown and cases increasing, selling pressure on the market is unlikely to subside.

The Dow Jones Industrial Average (DJIA) opened to a second straight day of gains as it sought to rise in back-to-back sessions for the first time in six weeks.

Unfortunately for stock market bulls, the Dow’s recovery is showing three key components of a dead cat bounce as fear towards coronavirus fails to subside .

dow jones industrial average chart
The Dow Jones Industrial Average (DJIA) is attempting to rise in back-to-back sessions for the first time in six weeks. | Source: Yahoo Finance

The three factors for a possible continuation of a Dow Jones downtrend are: stocks rising on stimulus, record-high outflows from investment firms, and the coronavirus outbreak in the U.S. showing no signs of slowing down , yet.

#1: The Dow Jones rising from stimulus is not positive

The Federal Reserve is aggressively moving towards easing monetary policies , following its statement that it will not hold back on releasing fresh stimulus to recover business sentiment and productivity.

While stimulus can slow down the downtrend of the market, it cannot save it for a simple reason that the stock market correction was triggered by the coronavirus pandemic in the first place.

The only major factor that could refuel the appetite of investors towards stocks and other high-risk assets is a significant reduction in new coronavirus cases.

The stock markets of China and South Korea have started to rebound  as the curve of new cases began to flatten.

With California officially going into lockdown  after governor Gavin Newsom asked 40 million residents in the state to stay home, the U.S. is still at an early phase of a coronavirus outbreak.

The market could temporarily react to new stimulus from central banks in Europe and the U.S. , but they are just that, a temporary measure to a larger problem at hand.

#2: Record high outflows from investment firms

Since March 12, asset managers have been rattled  by the amount of capital that has left asset managers worldwide, especially in the U.S. and Europe.

Prior to the severe sell-off of the Dow Jones on March 12, global equity outflows hit $23 billion, showing its worst year since July 2016. 

With volatility unseen for over 90 years, asset managers have reportedly called for a complete stock market shutdown. | Source: AP Photo/Mark Lennihan. | Source: AP Photo/Mark Lennihan

In the past week, within just seven days, mutual funds and exchange-traded funds (ETFs) in the bond market recorded $109 billion in total outflows . It far exceeded steep days of record outflows from 2017 to 2019 by a factor of four.

As investors frantically move their money out of both single stocks and even bonds, the Dow Jones and European equities need a stronger floor to initiate an extended rally in the near-term.

#3: Coronavirus is showing no signs of slowing down

The increase in clinical testing of potential cures for coronavirus is restoring confidence that the U.S. could soon see the peak of the virus , like China, Singapore, South Korea, and Vietnam.

But, the main problem of lackluster coronavirus testing in the U.S.  still remains. Hospitals have also started to report a shortage of ventilators, which are critical in supporting patients suffering from the virus.

California, Coronavirus, Dow, Dow JOnes
California residents are waking up to a sweeping lockdown across the state on Friday. | Source: Shutterstock.com

As the U.S. begins to move towards testing more people, the number of confirmed coronavirus cases is rapidly increasing.

When South Korea initially surpassed 10,000 coronavirus cases, it was the most infected country outside of China  at the time. Now, the U.S. has reported more than 13,000 cases, and the number could increase rapidly with health officials targeting July to August for the peak of the virus in Europe and the U.S.