The Markets Sit On Shaky Ground

While the deadline Thursday night passed without a deal being struck, the underlying mechanics of the market are on a knife edge relative to history.

StockCharts has been creating Bullish Percent Indexes since early 2001. A bullish percent index calculates what percentage of stocks within a group are on a buy signal. A stock goes on a buy signal on a PnF Chart when it makes a higher high than the previous peak. In order to go on a sell signal, it has to start making lower lows. The distance between a higher high and a lower low can be quite wide so bullish percent indexes don’t change quickly. By keeping track of how many are on a buy signal within a group, you can measure market enthusiasm.

The center panel on the chart is for the entire group of stocks on the Nasdaq stock exchange, which we call the Nasdaq Composite.

You can see the panel has two red lines placed by me based on history. When the market gets above and stays above the first red line it is bullish. Above the top red line suggests it is very bullish.

The same panel below shows three areas where the market rebounded from a pronounced low and rolled back over into more extensive selling. The one major concern here is how similar the current levels are with the market roll over in the spring of 2002, the top in October 2007 and the lower high in October 2015. Despite months of rallying, the market never delivered a wider group of stocks continuing on to make higher highs. This is worrisome to me after a big 4-month rally.

In the lower panel we have an indicator that keeps track of what percentage of stocks within a group are above or below the 200-day moving average. This is more like a light switch. A stock is either above a long term moving average or below. It is a binary outcome which contrasts to the wide range for the bullish percent indexes. By keeping track of what percentage of stocks are above the 200-day moving average we can get a feel for the strength of the market relative to history.

Even in this binary sort of outcome, we have not reached either of the two red lines after a big rally.

While one indicator provides a wide range, and the second indicator provides a tight concise measurement, they are both stalled where history typically suggests it may break down and get worse. While there was a period in 2005 and 2006 that might be considered similar, the readings did reach more bullish extremes. Without question, we could use those indicators as well. In all cases the market made significant dips, but not major dips like the other three I circled.

So the condition exists for the Nasdaq stock exchange. How about looking at the New York stock exchange?

Well, we see the same sorts of levels and the bullish enthusiasm is muted to a smaller group of stocks on the New York Stock Exchange as well. These levels are very similar.

This suggests we should be even more wary that the market may need to break lower as we don’t have the broad participation to start a new market rally yet. Be careful to verify the information through charts, not portfolio managers talking their book.