Blog | Quantifiable Edges | Assessing Market Action With Indicators & History

Can The Market Bottom On Light Volume?

Posted by Rob Hanna in Quantitative Study, volume March 6, 2009

One common misconception about steep selloffs is that they need to be accompanied by high volume in order to mark a bottom. October 10th and (to a lesser degree) November 20th, 2008 are two examples of big down days that came on big volume that soon led to a reversal. While this pattern can precede a bounce, you’d much rather see your new low accompanied by very low volume than very high volume.

Let’s look at some studies to illustrate this claim. First let’s look at performance following a 50-day low that has neither very high nor very low volume: {edit: the following tests were inadvertently run from 1992 – present, not 1960 – present. See March 10th follow-up blog for more details and longer-term results.}

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So this is the base case and as you can see there is a slight upside edge over the next 1-20 days.

Now let’s look at the ever-popular high volume selloff:

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Results here are nearly indistinguishable from the base case. The high volume, while not a deterrent, does not seem to provide an additional edge.

Now let’s look at the less common case of a 50-day low occurring on light volume:

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While the number of instances is less than desired these results are clearly superior to the other scenarios. Over 90% winners after both 4 days and once you get out over 3 weeks. The average trade over the next week and over the next 4 weeks is about 4 times the size of the base case. While they didn’t all mark the exact low, some success stories included 10/7/02, 3/10/03, and 1/24/05.

There are plenty of technical reasons we should see a strong rebound soon. Thursday’s light volume can be added to the list. Now let’s just hope the market stops ignoring these reasons.

Breadth Indicators With Confirming Extremes

Posted by Rob Hanna in CBI March 4, 2009

Yesterday I noted my Capitulative Breadth Indicator (CBI) spiked above 10 up to 12. On Tuesday the number reached even higher to 18. Eighteen is an extreme reading that has only been reached during 5 other periods since 1995.

Before I show those dates I want to mention another breadth indicator I look at which also measures oversold breadth. Worden Bros. T2114 and T2116 measure the % of stocks trading 1 and 2 standard deviations below their 40-day moving average. Both are in extreme territory at the current time. T2114 (1 standard deviation stretch) is reading almost 87% currently. Data is available back to 1986. Since then there have only been 6 other periods where similar levels were reached.

Below is a table comparing the CBI>=18 to a Worden Bros. T2114 > 85:

Both indicators are now at similar extremes only reached during some sharp selloffs that resulted in sharp rebounds.

CBI of 12 Suggests Bounce is Near

Posted by Rob Hanna in CBI March 3, 2009

I’m beginning to see some indicators hit truly extreme readings – most of them breadth indicators. One indicator I track that finally spiked up to an extreme reading Monday is the Capitulative Breadth Indicator (CBI). It now stands at 12 and could spike quite a bit higher on Tuesday if the market fails to rally. I’ve discussed in the past that there is a strong bullish edge when the CBI moves over 10. A “system” I’ve discussed in the past is buying the S&P when the CBI reaches 10 or above and then selling when it returns to 3 or lower. This system was perfect from 1995 until July 2008. In July it suffered its 1st loss and in October it suffered its 2nd loss. November spike above 10 nailed the bottom and turned into the a 19% gain – the biggest ever for the system. Some detailed statistics are below ($100k/trade, 1995-present):

The CBI is one indicator suggesting a bounce is near.

For more detail on the CBI, click the label below or click here to read the intro post.

My Take On The VIX

Posted by Rob Hanna in Quantitative Study, VIX March 2, 2009

Another big day down today and still the VIX isn’t stretched. An observation I’ve seen several traders make is that while the S&P fell hard last week, the VIX (and VXO) didn’t rise. The interpretation by some is that this suggests a lack of fear and is short-term bearish. I was unable to find evidence to support this theory. Below is one test I ran that looked at other times the S&P fell at least 2.5% while the VXO also fell.

I wouldn’t call the results bullish but I wouldn’t call them bearish either. I would suggest that perhaps the VIX is simply an indicator lacking a solid edge for the time being.

Bank Action And The Market

Posted by Rob Hanna in Uncategorized February 27, 2009

The one sector that held up very well Thursday was the Banking Index (BKX). Yesterday I showed a study that suggested a bullish bias following a negative SPX day where the SOX thrives. Below is a similar test using the BKX instead of the SOX:

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This study would have triggered both on Wednesday and Thursday. Instances are too few here to draw any solid conclusions. It does appear worthwhile to keep an eye on the BKX as well as the SOX, though. Interesting about this study is that there were two occurrences in 2008. They were on 1/22/08 and 10/10/08. Both near notable market lows.

Edit: Citigroup is trying its best to ruin these results as I type this. Expect the banks to remain front and center. Looks like we’ll have another action filled day.

SOX Gives Intermediate-Term Bullish Market Indication

Posted by Rob Hanna in Quantitative Study February 26, 2009

A positive intermediate-term sign Wednesday was the fact that the Semiconductor Index (SOX) rose even as the S&P and Nasdaq suffered 1% declines. I first showed the below study on the blog last August. I’ve updated the stats to run up until the present.

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These are solidly bullish results with the winning percentage, the profit factor, and the average trade all posting strong numbers throughout the test period.

Not shown above is that over the next week the S&P has posted a close higher than the trigger day close 89% of the time. If you look out 12 days there has been at least 1 close higher than the trigger day in 42 of 43 instances (98%). The only loser came after the 7/21/98 signal. This has been a solidly bullish intermediate-term signal.

VXO Collapse May Indicate A Brief Pullback Is Likely

Posted by Rob Hanna in Quantitative Study, VIX February 25, 2009

The VXO fell over 15% on Tuesday – a fairly rare occurrence, especially when the S&P 500 is moving off a 50-day low. Below I took a look at how the S&P has performed following such instances:

Notable above is that only 1 of 10 instances saw the S&P rise the next day. Not shown in the chart is that the lone day 1 winner closed lower than the entry on day 3 – meaning there was a short-term pullback in every case. Instances are a bit low in this study but notable and quite suggestive nonetheless.

Another Study Suggesting A Short-term Bounce

Posted by Rob Hanna in Quantitative Study February 24, 2009

Monday marked the 5th day in a row that the S&P 500 closed below its lower Bollinger Band (20 period, 2 std dev). Looking back to 1960 I found only 23 other occurrences. Of those, 22 managed to close higher than the trigger-day close at some point in the next 3 days.

Unfortunately, as you can see from the table below, the edge has been very short-term:

As this selloff has worsened more and more evidence is suggesting a bounce is well overdue. To this point, though, the bounce has evaded us. I expect it shouldn’t be too much longer until we see it.

CBI Hits 7 For 1st Time Since November

Posted by Rob Hanna in CBI February 23, 2009

I haven’t mentioned the Capitualtive Breadth Indicator (CBI) for a while. For those unfamiliar it is a proprietary method of measuring the amount of capitulation evident in the market. You may read the intro post here or the entire series here. Since the November lows it has been pretty much dormant except for a quick blip in January. It began to move up last week and at Friday’s close it hit 7. Long-time readers will recall that this is a level where I feel a decent bullish edge exists. Below is a chart of the CBI from the Quantifiable Edges members section.

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In the past I’ve demonstrated that it can be used as a market timing tool for swing trades. One “system” I’ve shown here on the blog is to purchase the S&P 500 when the CBI hits a certain level (7 being one of them) and then sell the S&P when it returns back to 3 or below.

Below is an updated performance report of the above “system” covering 1995-present.

I’ll keep readers informed of significant changes in the CBI over the next several days until it returns to neutral.

Short-Term Oversold At An Intermediate-term Low Provides Bullish Edge

Posted by Rob Hanna in Quantitative Study February 20, 2009

Short-term oversold at intermediate-term lows can be a powerful combination. Let’s look at the current situation. The 2-day RSI of the SPX closed basically right at 2. The SPX also closed at a 50-day low. Below is a test that shows how this combination has performed since 1985.

We see here a strong inclination for an almost immediate bounce. The edge is very short-term though as it begins to dissipate after just 2 days. Not seen in the table above is that an astonishing 30 of 31 instances closed higher than the entry price at some point over the following four days. The only failure was on March 25, 1994.

Mild Selloff After Sharp Drop Sets Up S&P For A Bounce

Posted by Rob Hanna in Quantitative Study February 19, 2009

In the past I’ve found that weak bounces after strong selloffs have had bearish short-term implications. Wednesday’s action just missed the weak bounce as the S&P finished marginally lower. So tonight I looked at S&P performance following a sharp drop and then a marginally lower day. Below I show the 5-day return across a spectrum of possible % declines between 0 and X%.

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Rather than the bearish results found when the market undergoes a weak bounce, we see here that limited additional selling carries a bullish expectation over the following week. The edge remains fairly consistent regardless the level of decline between 0% and 1%.

Observations On NYSE Issuers 1929 – 2008

Posted by Rob Hanna in Uncategorized February 17, 2009

A reader pointed me to the data I needed to produce a graph going back to 1929 showing the total issuers on the NYSE. The data is annual and can be located on the NYSE’s website using the following link:

https://www.nyxdata.com/nysedata/NYSE/FactsFigures/tabid/115/Default.aspx

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A little difficult to see is that the total issuers peaked in 1930 and declined until 1934. The market bottomed in 1932. The next true bull market didn’t emerge until 1942 though. (The 1942 Dow low was at 1933 levels.) Issuers crept higher for 8 years before the next great bull market environment emerged in 1942. When that bull market emerged the pace of increase in new issuers did also – confirming the rapid economic expansion.

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*Note that the breakout of U.S. / Non-U.S. was not available until 1956.

NYSE Total Issues Contracting

Posted by Rob Hanna in Uncategorized February 17, 2009

One number that has been hitting low levels lately is the number of issues traded on the NYSE. The chart below goes back to 1970, which is as far back as my database goes. During the difficult economic environment during the 70’s the total issues crept higher without much in the way of sharp rises or falls. Following the crash of ’87 the total issues only suffered a mild setback. The 90’s saw a rapid expansion in total issues. The 2000-2003 bear market saw a sizable contraction. In the last year there has been another fairly sharp contraction. With increased bankruptcies, floundering stock prices, and a dormant IPO market this number may continue to contract. A true economic expansion that could be accompanied by a multi-year bull market would likely see the IPO market revived and the NYSE total issues expand as well. I’d be wary of the sustainability of a bull market that saw continued contraction in the total issues traded on the NYSE.

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P.S. It would be interesting to see how this chart would look in the 30’s and 40’s. I haven’t been able to locate that data yet. Should any blog readers know a resource I’d be happy to link to it.

Stops Part 2 – When To Use Them

Posted by Rob Hanna in Stops February 13, 2009

It’s been a couple of weeks since I wrote “Stops – When Not to Use Them”. In that post I suggested that using stops when trading mean-reversion systems hurts performance in the long run. There were many good comments left after that post which I will address in the next post on this subject. Today, though, I’m long overdue to tell you when I think stops ARE appropriate.

While stops do not work well for overbought/oversold trading, they DO work well with breakouts or trend following systems. Traders that buy on a pattern breakout do so because their analysis indicates a trend could emerge in the stock or security they are trading. A reversal back into the base or below it would invalidate the pattern from a technician’s standpoint. Therefore in such cases I believe a stop is completely appropriate. Once the pattern “fails” you should no longer be in the trade. Of course some people may want to give a little extra leeway rather than putting a stop right at a support point, but even so, there is a point where the breakout simply didn’t take.

For my own breakout trading I tend to use very tight stops. I also tend to show little patience for a trade to work once I enter it. Most successful breakouts have a tendency to work right away, and when the market environment is conducive to breakouts there’s just no point in sitting around with dead wood. I’d rather exit with a small profit or loss and try the next one.

The edge in breakout or trend trading is not in the winning percentage. It’s in the risk/reward. A big winner can gain several hundred percent if it goes on a tear. That makes up for an awful lot of scratches and small losses. As an example in 2003 I did a lot of breakout trading. Cup & Handles, Flat Bases, High Tight Flags, Double Bottoms, etc. – all based primarily on daily bars. It was a tremendous year for trading breakouts because the ones that took caught fire rather quickly. It was also one of my best market years. Yet at the end of the year I went back and tallied the percentage of breakout trades I took that “worked”. In other words, they did better than a very small gain or scratch. My success rate? A little under 15%. And it was a great year. Why? Tiny losses and massive gains.

Everyone’s style is different and someone with more patience would likely have had a better win rate, but the win rate wasn’t important. What was important was controlling the losses, and one way to do that was through the use of stops.

For more discussion on using stops check out some older posts from:

Afraid To Trade

IBD Index

Also, for some (much) older discussion on trailing stops you can check out my “Double Support Trailing Stop” concept.

To be continued…

The Importance Of Positioning In Analysis

Posted by Rob Hanna in Quantitative Study February 11, 2009

So what typically occurs after strong selloffs like we saw Tuesday? When considering the potential influence an individual bar may have on future bars it is important to consider the positioning of the bar we are studying. A sharp selloff coming when the market is extended up has a whole different meaning than a sharp selloff when the market is extended down. Let’s first look at the current situation to see what I’m talking about.

Here we see the sharp 1-day selloff has typically led to a muted bounce that then rolls over to make new lows. Instances are a little low. When I loosened them to a 2% drop I saw the same pattern.

But what if the market was at a 5-day low instead of a 5-day high? Results in that case would be much different:

Here we see a sharp initial bounce that is followed by more upside. In this case the sharp selloff is possibly exhaustive. That’s not the case when coming off a top. The expectation turns from negative to positive based on where the sharp selloff is occurring. So remember, when considering the meaning of a bar or pattern or of bars it is also important to consider the positioning.