Baffling Breadth

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Since most of the volume and open interest are in the two closest futures contracts measuring the volume-weighted premium relative to the standard 30-day VIX provides a good real-time sentiment indicator based upon actual commitments of large Asset Managers and Leveraged Funds. The chart reflects the distance from the VIX to the futures curve computed from the two front-month contracts.

Market Breadth as measured by our preferred gauge, the NYSE ratio adjusted Summation Index that considers the number of issues traded, and reported by McClellan Financial Publications. For the week, it advanced 25.24 points or +326.97% closing back into positive territory at 17.59.

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The alternative breadth measure based on S&P 500 Index stocks above their 50-day Moving Averages ended the week at 70.54%, up 10.42% compared to 36.67% on July 19 confrims recent big-cap relative outperformance.

Narrowing breadth measures a market condition when more issues decline than advance often associated with rotation into highly liquid large-cap stocks that are easy to sell in the event it becomes necessary. From this perspective, it reflects declining market liquidity as more money becomes concentrated in fewer issues.

"Divergences can persist for a long time before they finally matter, and they won't tell you the moment when they are going to start mattering. So any bearish divergence is only a temporary message, and subject to revision."  – Tom McClellan.

Rather than giving a precise sell signal, it describes a condition like looking out the window to see clouds in the sky suggesting it may rain but not exactly when it may begin. Alternatively, a gentle breeze may come along and blow the clouds away clearing the sky. Breadth divergences will be resolved either by the major indices declining or greater participation by more issues. Seasonality could also play a role since fewer managers hunting for undervalued small and midcap stocks are active in August.

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Disclaimer: IVolatility.com is not a registered investment adviser and does not offer personalized advice specific to the needs and risk profiles of its readers.Nothing contained in this letter ...

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