thinning market – Adaptiv

Unique Index Provides Insight Into The Current State Of…

January 15, 2015April 13, 2022

It’s important to take a look at price, markets, and trends from different angles. Any edge we can gain in identifying opportunities is valuable. Today, we’re writing about an index that you might not be aware of, but that is very helpful in gaining insight into the current condition of the U.S. stock market: the Value Line Geometric Index (XVG). This index tracks the median move of stocks within the index using the assumption that each stock has an equal amount (for example, $1,000) invested in them. The daily average move of this index is calculated geometrically (rather than arithmetically). I don’t want to bore you with the details, but if you need more info, you can read more about the methodology here, page 4. More simply put, this index eliminates an illusion created by weighted index components. Weighted stocks within an index can pull it higher even as the majority of the stocks within the index are not following along. For example, in a weighted index like the S&P 500, it’s possible for the top 100 weighted stocks to carry the index higher while the remaining 400 stocks lose value. As an investor, it might be helpful to identify when this is happening.

We previously released research that provided a similar approach by looking at the percent of S&P 500 stocks that were above their 200 day moving average. In the same way, by looking at the Value Line Geometric Index alongside the S&P 500, we gain valuable insight into what is currently taking place in the market. Looking at the chart below, the Value Line Geometric Index is in the upper panel and the S&P 500 in the lower. Notice that the equal weighted Value Line index is struggling to break its previous highs from 1998 and 2007 while the S&P 500 has continued higher (divergence). This condition has been persistent since March, 2014. This means the market is thin: money is flowing into large cap stocks and leaving the rest behind. This is a stock picker’s market and can be a hallmark of market tops. It should be noted when looking at the chart below that this condition can persist for quite a while before there is an overall resolution to the market (aka a correction in price). In the past, a noticeable divergence developed between the equally weighted index and the weighted S&P 500 before the S&P 500 corrected in price. This doesn’t mean the S&P will correct in price right now or at all. But, it does mean that it is getting harder to find U.S. stocks that are trending up. And as long as this condition is in place, we’ll be watching the price of the S&P 500 closely. You should be too.

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Headlines Sell [Weight of Evidence, Part 1 of 7]

November 12, 2014April 13, 2022

“This isn’t a stock market. This is a market of stocks.”

The quote above is a common phrase in Wall Street circles and it is absolutely true. You don’t have a stock market without the stocks. However, financial media will never present it that way. How many would read an article that says, “Individual Stocks Refuse to Participate in Broad Index Rally”? It is so much easier to click on headlines that read, “Market Rallies to All Time Highs” and, “S&P 500 at New Historic High”. After all, why let the facts get in the way of a good story? [thick sarcasm]

As curious investors, we need to know that the performance of stocks within an index is just as important as the performance of the index itself. And when the two don’t jive (this is called divergence), it is time to sit up and take notice. Now is one of those times. While the S&P 500 and DOW are making new historic highs (awesome!), the individual stocks within each index are not participating at the same pace (not awesome!). Less and less stocks are making new highs while the indexes themselves are at new highs. This is called a thinning (or stock pickers) market and could be a harbinger of a change in direction for the overall market. This is just a warning sign. Something to be aware of. We don’t need to take action… yet. We just need to be aware that things are not as they seem. This symptom can resolve itself with an increase in stock participation within this rally. If that happens, it means great things for the upward trajectory of the market. However, if this symptom does not resolve itself, any downturn in the market could be significant (a 10 to 30+% correction).

Now, on to the eye candy to show you what’s happening. The chart below is pretty simple. The line above is the percent of S&P 500 stocks that are above their 200 day moving average. Notice that a less and less percentage of stocks are above their 200 DMA. The line below is the S&P 500 itself. Price is at new highs. I’ve annotated (in 360 green) where past divergences have taken place. Notice the eventual reaction of the market. It doesn’t tell us when, but simply, that a resolution must take place. We’re taking notice as we weigh the evidence.

Tag: thinning market

Unique Index Provides Insight Into The Current State Of…

Headlines Sell [Weight of Evidence, Part 1 of 7]