Have We Seen Stock Market Capitulation Yet in This Downturn?

Almost all analysts and strategists agree that one of the key things that signals a bottom in the stock market is a clear capitulation of the stock market. What exactly is capitulation? The word capitulation comes from a military term which means surrendering or giving up. In stock market terms, capitulation typically means that investors decide to exit stocks in mass just to get to safer assets. In stock market capitulation, there is true panic selling and drops of hundreds of points can occur in a few minutes of time.

Why is capitulation helpful for a bottom in the stock market? Capitulation is helpful in the bottoming process for the stock market because it usually means that everyone who possibly wants to get out of stocks has been able to do so. Once everyone who wants out of stocks is able to do so there are generally lots of solid stocks that are great bargains and they tend to reverse course and begin to gain ground.

Have we seen true capitulation through 2008 and 2009 in the stock market? This is a very difficult argument because we have seen losses of almost 50% from the highs in the S&P 500 and the Dow, but it's hard to tell at times whether there has been a true capitulation in the market. This decline has been more of a steady bleeding of the market than it has a sharp one or two day drop that capitulates all stockholders. The other thing that says capitulation probably hasn't yet occurred is the fact that so many people keep calling a bottom in the stock market. As long as analysts and strategists are saying that we have definitely put in the bottom and it is time to get more aggressive with stocks it is unlikely we have seen the true capitulation bottom.

What to look for to see capitulation? Look for everyone to decide that stocks are no longer going to be useful at all. The more negativity there is surrounding stocks and the stock market as a whole, the more likely capitulation is. We certainly have a lot of negativity in the markets now, so capitulation could be nearby. The single biggest thing that now needs to happen is we need those last people who keep holding out hope that stocks will charge forward sometime soon to give up. Once those who have held on the longest give up it will signal a real capitulation in stocks.

It is important to remember that capitulation isn't always easy to discern as its happening, and hindsight is 20/20 in these types of cases. Be on the lookout for panic selling and investors giving up on the stock market in the months ahead.