Well it does not take a scientist to see there has been a very chaotic global environment over the past week or two.  The stock market always attempts to be a somewhat adequate indicator of what is going on in the world.  If news is good then the human beings who make investment decisions are optimistic and usually push prices up.  If news is interpreted as bad, then prices get pushed down.  Since investors experience emotional responses to stimuli, prices are often pushed to bullish and bearish extremes. 

This selloff has very little to do with the U.S. credit rating downgrade and much more to do with worries over a slowing global economy.  Normally, a slowing economy (which is deflationary by definition) will be met with stimulus provided by the Federal Reserve.  This stimulus is inflationary by nature and is exampled by low interest rates and liquidity injections.  The current problem is our sovereign debt has reached such levels that additional debt, (in the form of liquidity and stimulus) may not actually inflate the economy.  In fact, I believe QE2 had less of an impact than QE1 and unfortunately was the root cause of the cost push inflation mostly exampled by rising food and energy prices.  If you remember correctly, a falling dollar has the unintended consequence of placing upward pressure on commodities.  Of course, a deflationary economy will see the dollar rally and the price of commodities fall.  So the battle rages on between recessionary forces and inflationary forces.  The Federal Reserve will do everything they can to prevent deflation from taking hold and initiating an ensuing downward spiral. 

Before I forget, the Dollar Index is at approximately 74.65 as I write this.  Interestingly, I would have expected much more dollar strength given the amount of monies that have left the equity markets.  Another indication the downgrade was not the catalyst for the selloff is that people have been buying treasuries over this market correction.  Monies would not flow there en masse if they were overly worried about the credit downgrade.

Do not forget about digging beyond "the noise" in attempting to determine the cause of things.  London has been dealing with a wave of riots recently.  Most of the news pundits blame this on a police shooting.  While that might have been a trigger I believe there could just as likely have been some other trigger had the shooting not occurred.  When masses of people deal with extended high unemployment, and eventually are asked to make do with less as a country is forced to implement austerity measures, you have a very volatile storm brewing.  This is the dilemma facing many industrialized countries with inordinate and unsustainable levels of sovereign debt. 

How about some optimism?  In the short term the market appears to be somewhat oversold.  When pessimism grips the market eventually you run out of sellers and a rally ensues.  Tomorrow, Thursday August 11, the jobless claims economic numbers are released.  Since we have to grow our way out of this malaise we find ourselves in, good news from this economic release could spark a nice rally.  Maybe the market is pricing in a pessimistic number?  I have my fingers crossed.  Remember, it is always darkest before the dawn.