Last Friday’s market action didn’t look that bad on the surface. Both the Dow and the S&P 500 were down only about half of 1 percent. That hid the larger technical damage that occurred to the Nasdaq and the Russell 2000. Both the Nasdaq and Russell 2000 were down almost 2.5%. But looking even deeper into the stocks that make up those indices we saw even greater distribution. I wrote custom code to scan every small cap stock in the Russell 2000 and record where it’s at in its quarterly range. I considered stocks near the top third of their range to be ‘Bullish’ and the stocks near the bottom third of their range to be ‘Bearish’. I then counted the number of stocks in these respective baskets and created indicators. As you can see, the number of Bearish stocks are just about to overtake the number of Bullish stocks. Every time this has occurred before, going back several years, there has been a correction of varying degree. Second, as the Russell 2000 made higher highs, the number of stocks in the Bullish range did not confirm these moves. Finally, a custom indicator that I call Money Flow, also has been weakening and is not confirming these new highs. As with all market analysis, I see weakness going forward, but as far as depth and time, I’m not sure.
The Wave vs. Waterfall report is another one of the proprietary indicators we use at MCR Capital to assess market risk. It’s remarkable in it’s simplicity and effectiveness for market analysis. Previously, market data providers would provide number of stocks at their new highs, and at their new lows. An analyst would assume that as long as the number of new highs exceeded the number of new lows, then everything was fine. Unfortunately, this left a lot to be desired. Now with the advent of gigabytes of market data updated every day we can dig deeper into the data.
The Wave vs. Waterfall report takes every single stock in an index, and ranks it according to where it is in it’s yearly range. Stocks at 100% of their yearly range are making new yearly highs, and stocks at 0% are making new yearly lows. We plot each stock in order from greatest to least. We then do the same thing for the previous 2 weeks. This allows us to see whether the underlying market is “healthy” and also, how does it compare to the previous two weeks.
The S&P 500 has seen a significant decrease in the number of stocks making new highs, and the number that is within 80% of its yearly range. This is definitely a sign of weakening in this index. Also, the number of stocks less than 20% of their yearly range is also increasing as the blue line moves to the left.
The midcaps are showing an even greater amount of deterioration. Our tactical models are still long the market, however watching the wave vs. waterfall charts give us additional information to the strength of the other indicators.
Finally, the small cap Russell 2000 also registering a minor amount of deterioration.
If you’d like more information about some of our models, or how to implement them in your own practice, feel free to contact me at firstname.lastname@example.org