Tuesday, January 22, 2008

CBI Spiking - How Bad Can It Get?

The Capitulative Breadth Indicator is on track to spike up from 5 on Friday to between 12 and 15 today. It has only spiked as high as 15 high 5 other times since 1995. As I’ve stated in the past, spikes above 10 typically lead to a strong bounce. This does NOT preclude more downside before the bounce occurs, though.

Below are graphical displays of the two biggest spikes (and scariest declines) the indicator has seen. (It was backtested to 1995 and has been measured live since 2005.)

July 2002




In this case there were three more days of selling before the bottom and the bounce came. Going long at the close when it spiked above 10 would have led to a 12% intra-trade decline before posting a 2.4% gain.

September 2001


Here as well there were 3 more days of selling before the bottom was hit. This time the continued drop was about 8.5% from the entry to the low. The gain on the trade in this case was 3.8%.

Summary
The CBI is now signaling a sharp short-term reversal is near. As demonstrated above, there still could be a significant amount of short-term pain yet to endure. Spikes of 10 or higher have happened 16 times. Buying that close and selling on a return to 3 or lower has been profitable all 16 times. The average gain on the 16 occurrences from open to close was about 1.8%. The average intra-trade drawdown was about 3.1%. Starting relatively small and continuing to scale in as the market sinks is my preferred way to play it.

I will continue to update CBI readings in the days ahead.

5 comments:

Dave M. said...

Add three days after a reading above 10 and then go long? Your two examples seem to say that.

Rob, thanks for these swing trading studies. They really are quite interesting to a trader like me, even though I am more of a intermediate term trader. You've probably read Mark Boucher's book "The Hedge Fund Edge" where he also outlines trading strategies, albeit longer term. He is/was also at TradingMarkets.com as well as Dave Landry who also does swing trading, like you seem to do.

Samuel R. said...

Rob,

I have just discovered your blog and it is already one of my favorites and a "must read". It helps to see how a real pro goes about identifying edges. Keep up the great work.

Tim said...

How about buying the 1st higher close after indicator hits 10+?

Anonymous said...

rob,

Awesome blog ! I followed you on tradingmarkets and love your research / Where did the cbi close today ? I see you posted it was over 10 at around 3 pm

Rob Hanna said...

Dave,

If you wait 3 days you'll miss a good part of most bounces. The two examples I showed were the worst case scenarios over the last 13 years.

Mark Boucher's writing can still be found on the MoneyBlogs at TradingMarkets. Dave can be found at davelandry.com

Samuel - Thanks.

Tim - Good thought. See my next post.

Anon - 13.

Rob