While I’m no longer a stock market analyst (I’m focused on forex these days), I still keep my eye on what’s happening in equities. It is, after all, a big inter-linked financial world.
One of the things I watch when looking at the big stock market picture is the Advance/Decline line. Basically, that’s a measure of how many stocks have risen vs. how many have fallen on a given day. Because there can be big swings day to day based whether the market is up or down, most A/D lines do something to produce a smoothed out reading. Some are cummulative figures. Others, like the one I like to look at, is average-based.
You can see it plotted at the bottom of this chart.
To be specific, the plotted A/D line above (blue line) is the 13-period exponential moving average of the difference between NYSE advancers and decliners.
I look at the A/D line as a confirming or diverging indicator. When the market is making new highs and the A/D is making new highs, you have a confirming indication. When, however, you have the market rising and the A/D line is falling you have a divergence. As you can see (highlighted by the red lines), that’s been the case recently. The market has been making higher highs and higher lows, but of late the A/D line has made a lower high and a lower low.
Divergences are warning signs. They indicate that something may not be quite right, but they don’t automatically mean the market is going to reverse. I have seen divergences persist for long periods before the market finally does change course. Also, sometimes they just don’t work out, like earlier this year. Notice how the market made a higher high in August, but the A/D line failed to do so. That divergence didn’t result in a turn down. Instead the market ended up taking off on another strong run.
Still, when you see a divergence in the A/D line, or any other type of “internals” indication, it gives you reason to be cautious. I certainly am that right now where the stock market is concerned. The recent A/D action has been very, very poor. This week’s low is below any since since the bottom in March. I would not be surprised at all to see the next rally up, if it comes, fall well short of the latest highs.
If you like this post or find it informative, I encourage you to sign-up for the newsletter.
Also subscribe to the blog feed and/or follow via Facebook or Twitter.
About the Author
John Forman, author of this blog, has traded for more than 20 years, is a professional market analyst, and authored The Essentials of Trading. He is an active participant in trading forums, consults for trading related businesses, as published literally dozens of trading articles, and has been quoted in a number of books and in the media.
** See John’s full bio.
Similar Posts:
- Divergence Trading Defined
Volatility and Volume in the Stock Market
