The S&P 500 is in a corrective wave (so far) to the upside following a sharp sell-off between late February and mid-March.

Since this is a corrective rally, another sharp sell-off may develop. Whether that sell-off will reach news is unknown. There are compelling pieces of historical evidence that suggest the bottom is in.

First, I will look at three price action signals that are helpful for determining when a bottom in.

Then, I will look at a market breadth indicator and a volatility indicator that tells me when it is a good time to start swing trading on the long side again.

Before we proceed, while the indicators discussed have a stellar record in picking when a market bottom occurred, this is historical data. Whether it works this time is yet to be determined. But I trade based on probabilities, so when there is an “all-clear”, I trade.

Current State of the S&P 500 Based on Bottoming Signals

I like to look at three factors when determining if a bottom is in.

• The first signal we often get that a bottom is in is a Lowry upside day. This is when 90% of the total volume on the NYSE is to the upside on a given day, and 90% of the total points are to the uspide.

The points are a harder statistic to find, but the volume statistic is easy to find and acts as a very good proxy.

Essentially, when 90% of volume is on the upside following a significant market decline, it warns of a potential bottom. To learn more about Lowry upside (and downside) days, read the free research paper from Lowry Research. On the chart, I have used StockCharts’ NYSE Up Volume divided by NYSE Total Volume. It is a good estimate, but it differs than the WSJ data linked to above. If the StockCharts data is close to 90%, I will also calculate the number manually using WSJ data to confirm.

We have had multiple Lowry upside days. So this indicates a bottom. But that is only 1 checkmark out of 3.

But sometimes it gives a few too many Lowry signals, so to help confirm, I like to see another two signals.

• A follow-through day. This is a solid rise (2%+) on bigger volume than the prior day, 4 to 7 days into an attempted rally. We also want to see strong stocks breaking higher.

For more on follow-through days, check out the book How to Make Money In Stocks, or read IBD’s brief description on follow-through days. Note that they say 1% move to the upside, I prefer to see 2% or more.

We have seen follow-through days on both rallies in the S&P 500. In the last few days, we have also seen a number of strong stocks break to new highs. Checkmark number 2 out of 3.

• Finally, I also like to see the NYSE Advance-Decline line make a higher swing high. This helps show that multiple stocks are starting to see improvement, not just a few.

The NYSE AD Line has made a higher swing high. 3 checkmarks out of 3.

In summary, we have 3 solid technical signs that indicate a market bottom has occurred. The signals are highly reliably historically. We shall see if they hold up this time.

What Does That Mean?

I said right at the beginning that this is a correction higher. More volatility is likely. We may get another strong sell-off, although the signals above indicate that the S&P 500 is unlikely to make a lower low, and if it does it is likely marginal.

To me, this indicates that if I see a good stock deal for a long-term investment, I can consider purchasing it. It also means that I can purchase index funds in my investment accounts if I like.

Basically once, the signals are in, I don’t take it as prophecy that we can’t go lower. But once the signals are in, it means the sell-off is likely mostly exhausted, and I can step in to buy things on sale if I so choose. I realize there are always risks.

I have purchased some index funds and have bids out in others in my investment account.

When to Swing Trade on the Long Side

Well, you can swing trade on the long side anytime. If you go in forums, many people will be bragging about making 50% on a trade in a couple of days. Losing just as much could also happen. Those stories tend to be kept quiet.

I am not swing trading on the long side right now in stocks. I prefer to wait for two signals to develop before I start jumping in.

• There is a better chance of catching a winner on the long side when at least 50% of NYSE stocks are above their 50-day moving average.

This is the $SPXA50R indicator on the chart above. It makes sense. If more than 50% of stocks are in an uptrend, you have improved odds of whatever you are buying to rise. When 20% of stocks are in short-term uptrends, most things are falling, so most people will end up with losing long trades. No checkmark.

• Next, we need to be aware that big volatility doesn’t occur during a bull market. It is a sign of a bear market. While volatility is elevated, any signs of a bull market need to be questioned.

I published the next chart on my Twitter account on April 6.

The chart shows a 1-day Rate of Change indicator. During bull markets, most daily moves are less than 1.5% either up or down. Right now, we are off the chart, literally.
Until those moves settle, we are unlikely to have a steady rise in the market. Expect chop, gaps, and whipsaws. No checkmark.

Before aggressively deploying most of my capital, I prefer volatility to drop. That way, I face less risk of an overnight gap against me, or getting whipsawed, etc.

• Finally, as an added criteria, my screening process is keeping me out of the market. There are very stocks showing really strong buy signals. When there are only a handful of really great stock setups, the odds of catching a winner are much smaller than if there are loads of great setups. No checkmark.

Final Word

Because of the bottoming signals, I have purchased some index funds in my long-term accounts and will buy more if we get another drop. There is enough evidence that most of the sell-off is complete from a long-term perspective. I am NOT plowing in, though. I have buying selectively, and am holding some cash. In case we get another sharp drop, I want to have some ammo for buying the next batch of opportunities. If the price continues higher and everything settles down, there will still be great opportunities. I don’t fear missing out.

As for swing trading—those week- or month-long trades—I am holding off. I want to see more stocks show up on my scanners showing great setups, I want to see more stocks in uptrends, and I really want to see volatility drop. These would all point to better conditions and higher probabilities to catch winners on the long side.

As a side note, I love volatility! I have been trading currencies day and night and making a killing in this environment.

I am also willing to trade stocks intraday, short or long, but I am not holding them overnight because of gap risk. That is me. Take advantage where you can, but know the risks, and where your strategies thrive.