Spoiler Alert: It Ain’t Good!
In my April 30, 2018 Newsletter – Waiting For A Breadth Thrust I talked about waiting for market breadth to display a bullish breadth thrust, to suggest that the market was on firm footing and we were still in a bull market. Not only did we not get that bullish breadth thrust, last month we got the opposite – a bearish breadth thrust.
During times of stock market stress or bear markets, there historically is a rush to sell that is large enough that is suggests that there is extreme stress in the broader stock market. This selling pressure can be monitored using different market breadth charts. Additionally, the opposite can be said that during bull markets you will typically see very strong bouts of buying that pushes market breadth indicators to positive extremes.
The chart below illustrates what I am talking about.
I know the chart is somewhat confusing, and the indicators may not make much sense to you. If that is the case, just look at the pattern, and I believe it will highlight the concept of breadth thrust and how it can be a very good indicator of stock market strength or weakness.
In the upper panel is the NYSE Composite Index, our stock market proxy. In the middle panel is the NYSE Advance-Decline Line Normalized by 21 days. This is a breadth indicator that I use to signal broad stock market risk (bearish thrusts). In the lower panel is the NYSE McClellan Summation Index – Ratio Adjusted. This breadth indicator I use for bullish breadth thrusts. There is no need for you to understand how these breadth indicators are calculated to understand the concept, but if you are interested, shoot me an email and I can explain them to you.
Here is how I use the chart. If we get a move below the horizontal red line, in the middle panel, that is a bearish thrust and that signals stock market stress or a bear market. This bear market signal stays in place until we get a bullish thrust in the lower panel. For that to happen we need a move above the green horizontal line in the lower panel. Again, don’t worry about not understanding these two indicators. What they are basically saying is that there is either a huge rush to buy stocks or sell them.
Now, look at the patterns. I have made notes and colored the chart to make it easier to identify the bullish and bearish signals. The red highlight shows the periods of time where the market was on a bearish signal, and the green highlight is the bullish periods. Also, I have noted where the indicators signaled a change.
Now turn your attention to the far right side of the chart. See how the stock market just signaled a bearish breadth thrust. There are other breadth charts that I monitor that are suggesting the same thing, that stock market risk is extremely elevated.
Having been at this for a long time, I have learned that when risk is this high it is best to be defensive. What that means for our clients is that we are sitting in cash.
The biggest difference between how I manage money for my clients and the traditional buy-and-hold method used by most investors is Risk Management. Our focus is on preserving capital during major stock and bond market corrections.
If you have any questions or would like me to review your portfolio, please feel free to contact me.
Craig Thompson, ChFC
Asset Solutions Advisory Services, Inc. is a Fee-Only Registered Investment Advisor specializing in helping the needs of retirees, those nearing retirement, and other investors with similar investment goals.
We are an “active” money manager that looks to generate steady long-term returns, while protecting clients from large losses during major market corrections.
Asset Solutions is a registered investment adviser. Information presented is for educational purposes only and does not intend to make an offer or solicitation for the sale or purchase of any specific securities, investments, or investment strategies. Investments involve risk and unless otherwise stated, are not guaranteed. Be sure to first consult with a qualified financial adviser and/or tax professional before implementing any strategy discussed herein. Past performance is not indicative of future performance.