SOX Bucks Selloff Again

The unusual strength in the SOX continues. I wrote about this last week. Tonight another example of how the market has performed when the SOX takes a leadership position. This time the comparison is to the SPX rather than the Nasdaq:


This is the 2nd time it has happened in a week. There have been only three other occurrences where the setup has triggered twice in a 1-week span. They were 4/10/96, 3/7/00, and 5/10/04 – all followed by nice rallies in the next few weeks.

A Look At Consecutive Up Days Over The Last Couple Of Months

The market made nice gains for the second day in a row today. Below is a recent chart of the S&P 500. Every time there were at least 2 up days in a row a purple dot appears.


In most cases over the last 2+ months 2 up days has quickly led to a selloff. The most the S&P gained on any 3rd day of this period was slightly over 2 points. A strong move higher could be a sign of a change in character for the market. Tuesday’s action may be worth noting. It could answer the question as to whether rallies will continue to be sold or whether they can start to accelerate their gains.

The Research Suggested This For Monday

Time for a shameless plug.

The Short-term outlook from the August 3rd Weekly Research Letter concluded:

“This would imply that weakness early in the week could be buyable for a swing trade.”

That weakness came on Monday the 4th and those who bought into it should have done quite well over the next few days.

In last night’s Weekly Research Letter I showed a study that triggered on Friday the 8th at the close. When this setup occurred the S&P 500 had posted gains the following day 14 times in a row. Today made it #15.

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Are Lagging New Highs Worrisome?

Even with the strong move to a new 30-day high on Friday new highs were unimpressive. In fact they were beneath new lows. I decided to examine the possible significance of this:

Results appear choppy and under perform a random sampling. The instances are quite small, and before jumping to conclusions it’s important to isolate the affect of the indicator. So below is the same test when news highs exceeded new lows:

These results are worse than the 1st case where lows exceeded highs. So while the market may pull back (which it frequently does after making 30-day highs), the blame shouldn’t be laid on the lagging number of new highs.

SOX Provides Bright Spot

On Tuesday the low put/call ratio and the reaction to the Fed suggested a pullback was likely to occur soon. Wednesday the volume pattern made the same suggestion. Thursday the market dropped hard. The S&P and Dow both lost almost 2%. The Nasdaq just under 1%. There’s no telling whether this drop will continue over the next few days, but for the bulls there is a silver lining in today’s action: Semiconductors.

Today the semiconductor index (SOX) bucked the trend and rose over 1.5%. When semiconductors take on a leadership role, it’s normally a good thing for the market. I decided to look at times following other days where the SOX managed to rise over 1.5% while the Nasdaq dropped .75%:


Not only are the % wins and average trade columns notable here but the massive volatility as well. Look at the size of the average wins and losses when you go out 4-6 weeks. Even over the next two weeks they’re huge. If you’re bullish, the stats are compelling. If your unsure, then a volatility play might be something to consider.

Another Low Volume Example

I’ve showed before how light volume in a stongly rising market will often lead to a pullback. Wednesday’s market action set it up in a slightly different way. It does provide another nice example though.

Three bearish short-term studies all looking at different indicators the last two nights. Upside may be a bit limited over the next week or so.

Put/Call Ratio Hits 7-Month Low – What That’s Meant

Normally I only post one study to the blog each day. Additional work is saved for Subscriber Letter recipients. But since August 6th is Independence Day in both Bolivia and Jamaica (as well as Ginger Spice’s birthday), I figured, “What the heck – let’s go for 2.”

The CBOE hit it lowest level since December 20th. That’s a quite a while. I checked to see what happened after other times it hit at least a 100-day low:

Score tonight Bears 2 – Bulls 0 (for the short-term).

Fed Day Spikes – Historical Aftermath

Last night’s study suggested a decent likelihood of a rise today based on the fact that the market was short-term oversold going into a Fed meeting. Today the rise came in a big way. So what happens after the market spikes up on the day of a Fed meeting? I ran a study:

While the SPX was up over 2% today, I used a 1% spike to ensure a decent amount of instances. More often than not the market tended to pull back over the next couple of weeks. While the downside edge isn’t huge on a percentage basis, the risk is quite a bit higher than the reward. Overall not encouraging for the bullish case over the next 2 weeks.

When The S&P Is Oversold Going Into A Fed Day

The S&P fell on Monday for the third consecutive day. There are some short-term price indicators reaching oversold levels at this point. More often than not, when the market goes into a Fed meeting and is short-term oversold, the result is a bounce. For tonight’s test I used the 2-period RSI. I looked at any time since 1978 the S&P 500 closed with a 2-period RSI reading below 20 the day before a scheduled Fed meeting. (I did not include unscheduled Fed meetings, since they all pretty much pop the market.) Summary results of all qualifying Fed days are shown below. They assume buying at the close the day before the Fed meeting and selling on the close the day of the Fed meeting. (Based on $100,000 per trade in the S&P cash index.):

Based on this, there appears to be a small edge to the upside for Tuesday.

More Detail On Put/Call Ratios

Last week I looked at some moving averages of the CBOE Put/Call ratio. I compared the 10-day average to the 200-day average. The 10-day average gives a sentiment snapshot for option traders. The ratios have risen gradually over the years as the market has evolved. The 200-day average helps to normalize the 10-day readings.

What was shown last week is that when the 10-period moving average is below the 200-period average, the market over time has lost money. When the 10-period moving average has been above the 200-period moving average, the net results over time have been a gain.

I decided this week to take a closer look. As it turns out, the results are not quite as cut and dry as they may appear at first. I used the same time period so that the numbers would match up. The column on the left shows the 10ma/200ma ratio. Returns are broken down by range. For example, on July 25th the 10-day average of the CBOE total put/call ratio was 0.96. The 200-day average was 1.03. Dividing the 10 (0.96) by the 200 (1.03) gives a result of about 0.93. Therefore, July 25th would have fallen into the 0.9 – 1.0 category. Points gained and lost are totals for the day following the reading.


I found these results quite interesting in a few ways. First, ratios just below 1 were bearish while times when the 10ma was strongly below the 200ma actually resulted in gains. I suspect this is due to the fact that the extremely low readings may be the result of a strong move to the upside. Strong moves up are more likely to continue up than weak ones.

Also interesting is the fact that 1.1 – 1.2 shows a negative return going forward. I suspect at this point the market may often be downtrending. Readings higher than this could signal exhaustion, which is why they results in positive days going forward.

An uptrending market with a little skepticism (1.0-1.1 reading) may be the sweet spot when looking for long-term gains.

While in general you’d rather see some skepticism with a ratio greater than 1, it’s not quite as simple as saying greater than 1 is good and less than 1 is bad.

Another Large, Low Volume Drop – Massive Edge or Statistical Anomaly?

The market has been on a roller coaster ride lately. It’s been six sessions since the initial bounce off the July lows topped out. In the last six days the S&P 500 has closed either up at least 1.25% or down at least 1.25% five times. Three times it’s been to the downside. All three times the big drops came on lower volume. As you might suspect, seeing the S&P drop 1.25% on lower volume 3 times in 6 days is a fairly rare event. Below is a summary of how the market has traded following such events:


The number of instances is too low to make much out of but the size of the returns is certainly eye-popping. An average return of over 5% in the next 7 sessions. That’s a substantial pop to say the least. For those who would like to review the dates, they are all listed below. Notice how 2002 dominated the study.


While not statistically significant, I find the results noteworthy and interesting. So to the header question: Are we looking at a massive edge or a statistical anomaly?

I’ll let you decide.

How Volume Provides Clues & What It’s Suggesting

Tonight I thought I’d show an example of how volume can affect price action. The last two days the S&P 500 has risen by over 1.5%. Volume has also risen each of the last two days. Ignoring volume I ran a test to see how the S&P performed after back to back 1.5% rises:


Results were choppy and even the better periods generally underperformed a random 1-2 week period.

Next I looked at what happened if the volume rose both days as it has the last 2:


Generally positive results. Nothing eye-popping but “worse than random” has turned to a positive bias.

What if I look at only those times when the market was up 1.5% for two days in a row and there wasn’t a progressively higher volume pattern?


As you’d expect, things have gone from choppy to choppy with a slight downside bias.

What if instead of rising two days in a row, we look at the same price pattern where volume sank two days in a row?


A gently positive bias with rising volume becomes a violently negative bias on decreasing volume. Of course the number of instances here is quite small. To remedy this I lowered the price requirement from 1.5% to 1%. Results below:


Similar story here. Any way you look at it, the moral is this: Pay attention to volume. It matters.

As a bit of a tease I’ll let everyone know that I’m currently conducting a large research project related to volume. I hope to be able to release results some time in August.

A Quick Recovery

After falling hard yesterday the market made up all of those losses and then some today. Historically, these kind of sharp recoveries have been bullish over the next couple of weeks. Below is a study which exemplifies this:

Of the 19 instances, 6 of them dipped below the low of the “big down day” at some point in the following 12 days.

Overall, action seems to have turned more constructive in the last two days.

What The Recent Put/Call Ratios Are Suggesting

With the increased difficulty created by the recent enforcement of short selling rules in certain financial stocks, it would seem that there may be a greater interest in put buying. This is because buying a put would be an alternative way to gain short exposure. What we’ve seen is exactly the opposite. Last Monday the CBOE Total Put/Call Ratio’s 10-day MA dropped below it 200-day MA. It continued to drop further below it all week.

In the past I’ve discussed the need normalize the put/call ratios. I began looking at the 10/200 MA ratio after reading some of Dr. Brett Steenbarger’s research on the subject. Dr. Steenbarger used the Equity P/C Ratio and looked for stretches.

In my case I do not require the 10-day MA to be stretched from the 200-day MA. I simply looked at how the market has performed when the 10-day MA is positioned either above or below the 200-day MA.

From 8/6/1996 through 7/25/2008 the S&P 500 has gained 595.44 points. When the 10-day MA of the Total Put/Call Ratio has been above the 200-day MA the S&P 500 has gained 710.31 points. When the 10-day MA has been below the 200-day MA the S&P 500 has LOST 114.87 points. Based on this I’d consider the recent cross of the 10-day put/call below the 200 day put/call to be a negatvie.

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Sunday’s Weekly Research Letter contained a study with the most bearish 1-month implications of anything I’ve published in 3 months. If you haven’t yet received a sample of the Quantifiable Edges Weekly Research Letter and would like to see this weekend’s research, send your name and email address to Weekly@QuantifiableEdges.com

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