Short-term Outlook (1-5 Days):  Neutral  Since June 24, 1067 SPX

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Equity Indicators - Updates and Extremes

Nasdaq Up Issues Ratio

Friday's trading activity was pretty mixed when we look at the major equity indexes, but underlying breadth was very strong.  There were a lot of stocks that rose on the day compared to those that fell.

Since small-caps make up a relatively large portion of the stock universe, and the Russell 2000 index was strongly positive on Friday (perhaps due to the yearly rebalancing in that index), it makes sense that overall breadth was highly positive.

Still, it's pretty unusual to see such a divergence between breadth like that and performance in an index like the Nasdaq 100.  Because the "big guns" in that index, like AAPL, RIMM, MSFT and CSCO were down on Friday, the Nasdaq 100 was down on the day despite more than 2-to-1 positive breadth on the Nasdaq stock exchange.

The only other time in history we've seen that was July 24, 1991 (which happened to lead to a monster rally, but could simply be coincidence).

Let's relax the parameters a bit and see if there's anything to this.  The table below shows all instances since 1984 when the Nasdaq 100 was down on the day but more than 60% of all Nasdaq stocks closed in positive territory.

In the very short-term, there wasn't a huge difference between those days and any other random down day.  But when we look out a couple of weeks, there was a stark positive divergence.  When breadth was so positive, the Nasdaq 100 was positive nearly 75% of the time two weeks later, and sported an average return that was three times random.

Covering 27 distinct trades, that's a pretty good performance.

S&P 500 Weekly Bearish Engulfing Candle

I'm not a big candlestick pattern guy, as I prefer to keep things as simple as possible.

Sometimes, though, the descriptive names given certain patterns are helpful, and last week we saw a nasty one, at least according to the technical analysis textbooks.  The S&P suffered a Bearish Engulfing Pattern, defined here.

Here's a chart of the ideal bearish pattern:

Now let's look at the past two weeks' activity in the S&P 500 futures:

That's an exact match to the "ideal" Bearish Engulfing Pattern according to Investopedia (and pretty much every other source).

You know that this just begs to be tested, so let's go back and look for every other time the S&P dared print such a bearish two-week candle pattern.

Since the inception of the futures in 1982, this has occurred 37 times.  Here's how the S&P fared going forward, compared to any other random week:

Compared to random, the "bearish" part of the pattern seemed to hold a little bit of water, especially when looking out two weeks to a month or so.

But...

Whether we were in a bull or bear market made a big difference on the pattern's outcome.  "Bull market" here is defined as a rising 52-week moving average on the S&P 500.

Here's the difference:

Most of these patterns (30 out of 37) occurred during bull markets.  But the 7 that did not led to horrid performance in the S&P going forward.  In fact, it proved to be an excellent "get out now" signal when looking out across pretty much every time frame.

Currently, according to the definition above, we're still in a bull market, so the "Bearish" part of Bearish Engulfing Pattern isn't quite so ominous.

Small Trader Call Buying

This is just a quick heads-up on what is one of my all-time favorite indicators, the behavior of small options traders.

Because we know who is doing what, using real money, without much of a delay, it's about as good a sentiment indicator as we're going to find.

Last week, these traders became quite disheartened, using only 28.8% of their total option volume to buy speculative call options to bet on a continuation of the rebound.  That's about as low as we've seen at any other point since the bull market began, lower even than late May.

While this figure has gotten as low as 25% during the worst of the 2008-2009 bear market, and as low as 20% in 2002 and 2003, the fact that we're seeing such give-up in speculative activity is a modest positive.

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