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Breadth & Market Indicators 3 August 2007 by John Ritchie
Summary
With major stock averages having made rapid declines over the last two weeks, it is a good time to review the various breadth and market indicators available on the Investors Intelligence web site. This introduces potential subscribers to the extensive array of tools and indicators available to them and helps answer the following question.
Have major stock market averages reached an oversold level?
Our findings are as follows.
Breadth indicators for the S&P 500 stock group have pulled back to medium term support levels and some have formed bullish reversals on their Point & Figure charts. That suggests that a tradable medium term low is near.
Advance/ Decline indicators are approaching their historically oversold levels. Confirmation is required from weekly indicators, which have yet to fall to prior oversold levels.
The NYSE short term volume indicator has reached its lowest level of the last four years. It is oversold.
The NYSE Money Flow indicator has pulled back to its long term uptrend, suggesting cash is on the sidelines waiting to be invested. It has yet to form a bullish reversal.
Put/ Call Ratios show a high proportion of puts being bought, which is bullish as it indicates high levels of fear. These indicators have a less exact correlation with index lows.
The Short Term Composite Indicator has formed a reversal up from its prior low.
The Sector Sum Indicator has fallen to its oversold levels of the last two years but has not yet reversed up. A reversal up would help confirm a short term bottom.
The Long Term Composite Indicator has reached an oversold level comparable with previous medium term lows. This level has been reached already because the decline has been rapid and has affected the vast majority of sectors.
To sum up, the various indicators show that we are at a medium term oversold level and some reversals on their Point & figure charts, particularly for the Sector Sum Indicator would confirm this.
Subscribers can find descriptions of our indicators in the Help - Indicators section of the web site.
Breadth indicators
We have three breadth indicators that we apply to the stocks comprising the major market averages. These are:
Point & Figure Bullish %: The percentage of stocks with P&F ’buy’ signals.
% 30 week moving average: The percentage of stocks above their 30 week moving average.
% 10 week moving average: The percentage of stocks above their 10 week moving average.
Some of these have reached potential support levels.
Perhaps the most important is the S&P 500 Bullish %. This has pulled back to 50%, a level that consistently coincided with medium term lows over the last four years. We like to see three box reversals on Point & Figure charts of our indicators, all though at times (such as August to September last year), a considerable market rally can occur before this occurs.
In such instances, faster moving indicators can help clarify.
The %30 week and %10 week moving average indicators for the S&P 500 Index both produced three box Point & Figure reversals on Thursday 2nd August. These are bullish developments; coming as they do around levels at which these indicators have previously found support, alongside the price index.
The %30 week indicator has found support around 40% twice during this bull market, but fell to 30% in summer 2006.
Being a faster moving indicator, the %10 week moving average indicator goes lower, to 20% during medium term pullbacks. That level has been reached.
A similar chart exists for the Russell 2000 Index and its %10 week indicator, which also reversed up on Thursday 2nd August on its P&F chart.
Advance/ Decline and High/ Low indicators
The AMEX Composite Index is shown with the AMEX (ASE) High-Low Index. Over the last four years, lows in the price index have coincided with lows in the High-Low indicator. These lows have occurred at around 20. The indicator is falling rapidly and is now at 28. So this indicator is not quite at the historically oversold level yet.
Note that at each medium term price high, the High-Low indicator fails to give confirmation, i.e. it forms a lower high.
The NYSE Composite Index is shown with the NYSE High-Low Index. Over the last four years, price and indicator lows have coincided. These lows have occurred at around the low teens and the indicator has fallen rapidly to 17.7. So this indicator has to all intents and purposes reached the historically oversold level.
The weekly version of the NYSE High-Low indicator shows a different picture, so far. This has not yet had this week's data included. Should it fall below 50, where medium term lows have formed during the last four years, then that will help confirm the view that we are close to an oversold low.
Note that the summer 2006 correction was so sharp that oversold levels of the bear market were achieved.
The NASDAQ High-Low indicator, at 19.4, like the NYSE indicator, but has almost reached its oversold level. The difficulty with these indicators is not so much identifying the levels, as the fact that there is not always a single column down and another straight back up. Indicators can stay oversold for a while.
In these cases, clues are given by the confirmation or otherwise of other indicators.
Volume indicators
The NYSE 10 Day Up/ Down Volume indicator is a 10 day average of the upside volume (daily volume for stocks that rose) as a percentage of upside and downside volume.
The chart shows that this indicator reached a low for the last four years and that those lows had a reasonable correlation with price lows. The Point & Figure chart has given a three box reversal signal. That strengthens the case for at least a short term rally.
The NYSE Money Flow Index measures money moving into and out of stocks, based on the value of shares traded. This has pulled back to a consistent long term uptrend since mid 2002. That shows that there is a comparatively high amount of money sitting on the sidelines, money that could fuel a rally. Again, lows in this indicator have a good correlation with lows in the S&P 500 Index. This is a weekly indicator. Check next week to see whether a reversal in the Point & Figure chart has occurred. Should the mid 2006 low be broken, that would be a significant bearish development.
Put/ Call ratios
A high number of put options being bought demonstrates fear in the market and generally occurs near bottoms. That can be compared against the number of call options bought, using the Put/ Call Ratio. There is some correlation between high Put/ Call Ratios and lows for the S&P 500 Index, although not quite as good as some of our other indicators. The high CBO Put/ Call ratio value confirms the impression of a lot of fear in the market at present.
Pulling it together: Composite indicators
The Short Term Composite Indicator is an indicator bound between 0 and 100. It has made a P&F reversal up from below 10, as it did in early March at the previous medium term price low for indices.
Lows over the last four years were also achieved from a similar level, although in 2004, the indicator fell below 10 in May and again in August. This demonstrates the fact that not every oversold indicator yields a winning trade after a few months.
The Help - Indicators section of the web site suggests using the NYSE %10 week breadth indicator for confirmation.
That indicator is around its lows for this bull market at 20%, but has yet to produce a P&F reversal. A reversal will serve as bullish confirmation for the Short Term Composite Indicator.
The Sector Sum Indicator shows the cumulative P&F status of 45 Broad Industry Bullish % charts. Low levels mean that many sector breadth charts have ’bear confirmed’ status. This has fallen to -25, around its lows since early 2005, which have coincided with lows in the S&P 500 Index. This offers further support for the view that markets are oversold.
Sector Sum values of -26 and -28 marked lows in July and October 2002 but this is another indicator that shows the setbacks in 2004 were worse in terms of sector breadth even if modest in price.
The Long Term Composite Indicator fell sharply over the last week, down to its historically oversold low around -200.
Again the chart shows a reasonable correlation between lows in the indicator and lows in the S&P 500 Index. The indicator tends to trough slightly before the market indices but it can peak well before tops, as has been the case since November 2006.
It may seem strange that the indicator can fall to the same level on the recent pullback as that achieved in summer 2002. Once again the reasons are the speed of the recent drop and the fact that it has been universal in its sector impact.
So to conclude, the Long Term Composite Indicator supports the view that we are near an oversold low.
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