Back in April, I wrote about how the breakdown of the range in the copper/gold ratio was telling us that the markets were headed lower. The markets have been in turbulence for some time now. We had a good rally coming of the June low, widely regarded as a bear market rally. The song didn't last as Powell made it clear that the FED would act fiercely to combat inflation. Apparently that took a lot of people by surprise as lots of investors were somehow expecting a FED pivot. Absurd to even entertain that thought this early in the hiking cycle. My bias is towards the downside, at least until the end of September. However, I do like to challenge my views, especially if a majority of investors and traders agree with my view.
So, how am I going to challenge the mainstream view? We're going to take a look at market breadth. An important indicator, it refers to the amount of stocks that participate in a move within an exchange such as the NYSE or within an index such as the S&P. Let's say the S&P index is rising steadily but market breadth tells us that it's only being pushed higher by a handful of stocks within the index. This is valuable information as the steadily rising index makes it look like a healthy bull market however behind the scenes the rise is shaky. In a nutshell, if a large number of stocks within the index participates in a rise, chances are it's a healthy uptrend. On the flipside, a large number of declining stocks within the index confirms bearish sentiment. You have a number of different market breadth indicators but we're specifically looking at the percentage of stocks above the 50DMA and above the 200DMA.
Notice in the chart below that breadth thrusts of the caliber we've seen the last few weeks goes hand in hand with major recoveries. A lot of stocks pushed the S&P index higher, which we mentioned before, signals quite some bullish sentiment. Make sure to also notice the bottoms in the S&P 500 and what the breadth indicator tells you at those times.
Another breadth indicator is the percentage of S&P 500 stocks above their 200DMA. When a bunch of stocks start dropping below their 200DMA, around 80 percent to be precise, it's been a fairly good indicator that the bottom was in. The issue is of course that data is limited to truly form an unbiased opinion. Is this an indicator that has value during times like these?
What do you think? Should we keep these two charts in mind when making decisions? Or do we focus entirely on the macro environment? Remember, an important factor to keep in mind is that the market is forward-looking. Indices will reverse into a bull market before macro data starts to visibly improve.