CBI Hits 14 Suggesting A Bounce

One notable breadth indication that hit an extreme Tuesday is the CBI, which jumped up to 14. I alerted followers of this via Twitter near the close. As I’ve written about and discussed many times in the past, moves to 10 or above have typically been suggestive of a strong bounce within a few days. Below is a simple test that shows results of buying a move up to 10 or higher and then exiting X days later.



More information on the CBI may be found using the CBI label below. Also, I recently updated the Catapult and CBI presentation in the members section of the website. If you would like to see the presentation or see the trade triggers that have pushed the CBI up to 14, you may take a free trial. (If you are already in the system but haven't trialed yet in 2010, just drop me a note and I'll set you up with one.)

Big Gaps Down When SPY Is Near Recent Lows

A little over a week ago I showed a study that examined large gaps up from high levels. The results were very compelling and suggested a strong downside edge. Today we are presented with a similar situation in the opposite direction. So this morning I ran some tests that looked at large gaps down from a low area. Below is one example typical of what I saw:



Perhaps a mild upside edge could be found, but certainly nothing as compelling as last week's study. Results were volatile as well, with the average intraday drawdown over 1.6% and the average run-up over 2%.

Below I tightened the requirements to a 1% gap and showed all instances. Results were similar - just with fewer instances.




Bottom line is there may be a slight upside edge, but the direction is certainly no layup. No matter the direction be prepared for some volatile action today.

Two 90% Down Days In One Week

It was just a little over a week ago that I was examining what occurs after the market posts 2 90% Up Days in a 1-week period. The results appeared quite bullish. Thursday we saw the 2nd 90% down day in the last 3 days. I stretched the requirement out to 1 week and took a look.



For the short-term at least, such negative breadth appears to suggest a bounce.

Predicting Fed Rates

A good question a reader sent to me yesterday was to explain how futures or options may be used to predict Fed rates. A great source to gain a better understanding of this subject is the Cleveland Fed's website. The link below is to their FAQ's page:

http://www.clevelandfed.org/research/data/fedfunds/faq.cfm

Questions 4 and 8 deal directly with this topic. Copy and pasting the information found there is a bit difficult since they use tables in the description. Should you have interest in how it is all done, simply click the above link and read the answers to questions 4 and 8.

Of course gaining a better understanding of how futures may be used to gauge expectations doesn't mean you want to actually do the calculations. Fortunately, they do them for you. The link below is updated daily and shows estimates for meeting outcomes.

http://www.clevelandfed.org/research/data/fedfunds/

Currently the estimates are suggesting there is virtually no chance of a rate increase tomorrow.

Of course even if you know what the Fed is going to do with rates, that doesn't tell you any probabilities or edges related to market reaction and behavior on or around these meetings. For that information, you'll need to read "The Quantifiable Edges Guide to Fed Days". The next Fed Day is tomorrow, June 23rd. The guide is available in ebook or paperback. If you would prefer the paperback, but want to read it tonight, just email your purchase receipt before tomorrow's meeting and I'll send you the ebook version.


Edit: Jeff Pietsch of Market Rewind in the comments section provided a link to a tool from the CME that predicts rates. Below is a lnk to the tool:

http://www.cmegroup.com/trading/interest-rates/fed-funds.html

Yesterday's SPY Action Suggesting More Selling?

It's quite rare for the market to 1) gap up large and then 2) close down on the day BUT 3) a good distance off its lows. Yesterday the SPY didn't even close in the bottom 25% of its daily range. Even bounces much smaller than yesterday's late day bounce can take some of the positive energy away from the next day. In last night's Subscriber Letter I loosened the parameters a bit and still was presented with a rare but fairly compelling setup. Indications were bearish over the next few days, with 2 and 3-day exits both showing all 7 previous instances with negative returns. Below I show all trades using a 2-day exit.



The number of occurances is low but when stats are this overwhelming I make sure not to ignore them. Especially notable is that every instance saw an intraday low at least 2.7% below the entry price at some point in the next 2 days.

A Large Gap Up From A High Level

Looks like there is going to be a sizable gap up this morning. I've shown before how large gaps up from 10 and 20-day highs in the SPY often lead to an intraday selloff. While the SPX closed at a 20-day high on Friday, the SPY and the futures were down slightly.

SPY closed down a little rather than up a little because it went ex-div. Rather than looking at 10-day highs I looked at closes in the top 10% of the 10-day range. A slightly different twist. (Note that the SPY missed qualifying for this by a few pennies as well thanks to the dividend. Still, I felt the current situation represented the spirit of the setup.)

Rather than a stats table, I've listed below all 11 instances since 2003.



10 of 11 instances saw declines from open to close. The far right column is even more interesting. In only 1 case did the max intraday runup from the opening price exceed 1% (3/16/09). In contrast, 9 of 11 exceeded a 1% pullback, and all 11 exceeded a 0.8% pullback. This all suggests to me that intraday risk/reward is skewed to the downside today.

The Mystery of the Declining Instances

One question I get fairly often is “Why does the number of instances decline when you look further out in a study?” I’ve answered it on a few occasions but recently realized I should make it a post.

As an example I ran a simple study below that looks at performance following a 1% drop in the S&P 500.




Declining instances are common with some studies - especially studies like this with a large number of instances. The issue has to do with repeat occurrences of the setup. Here we see there were 454 occurrences that showed up with a 1-day holding period. 77 times it happened twice in a row, so when you look at the 2-day exit results now your number of instances drops to 377. Looking out 5 days the instances drops to 246, meaning after the 1st instance there were 208 times where you again had a 1% drop during the 4 days following all "initial" instances.

I do this to avoid double counting. When dealing with oversold statistics if you double (or triple, etc.) count them then your results will most often be skewed unfairly bullish. The 2nd instance you're more oversold than the 1st and the 3rd even more so. Now when the bounce comes it's being counted 3 times if you decide to track the stats on all 3.

The opposite holds true for overbought studies with bearish results. Double counting there would often skew them even more bearish.

So when I run the stats on such studies, I make the assumption that the 1st time it triggers it puts you "all in" and your exit will be X days later. You can't get another buy trigger until the first one closes out.

So there you have it - “The Mystery of the Declining Instances” is finally solved.

The Quantifiable Edges Guide to Fed Days released in paperback

The early reviews are in and the paperback version is now available! After releasing the ebook version last week, the paperback edition of “The Quantifiable Edges Guide to Fed Days” was released this week. With the next Fed Day now less than a week away, there’s no time to waste.
Below are some early reviews:

"What I like about Rob’s work is the thoroughness that he approaches the subject. This attitude is exhibited in the book...In my view, a book that deserves a place in S&P trader’s library."-Ray Barros
TradingSuccess.com
Click here for full review

"I would highly encourage readers looking to understand more about how the market reacts to Fed Days to take QE's book for a spin."
-Michael Stokes
MarketSci
Click here for full review

The next Fed Day is this upcoming Wednesday, June 23rd. Are you ready?

Click here for ordering information.

Two 90% Up Days in One Week

On the NYSE yesterday Up Volume made up nearly 96% of all volume. This was the 2nd 90% up day in the last week (the other being last Thursday). I’ve shown before that this setup, while rare, has led to some extremely bullish returns. The last time I discussed this setup was in the May 28th Subscriber Letter. I’ve updated the stats below.



So while instances are low, returns have been very explosive. The results over the 1st few days are choppy – likely thanks to the fact that the 2nd 90% day will normally put the market in an overbought position. Once you get out over a week, the upside overwhelms.

Low Volume Rise To Short Term High In SPY

Below is one volume-related study that appeared in last night's Subscriber Letter.



Implications appear bearish. The bearish influence is primarily seen in the first 2 days. Of course we are looking at a sizable gap up this morning so it will be interesting to see how it plays out.

I'll Be Speaking At the L.A. Traders Expo On Friday June 11th

I'll be speaking at the L.A. Traders Expo on Friday June 11th at 8am.

The presentation is titled Quantifiable Edges for Trading Fed Days. I plan on discussing a fair amount of my research and findings from the new book, "The Quantifiable Edges Guide to Fed Days".

Below is a link to the Traders Expo site with a description of my presentation.
http://www.moneyshow.com/caot/WorkshopDetails.asp?wkspid=8FEA72887FD24662A1DD9F2B88776BBA

If you are unable to catch the presentation, you may be able spot me wandering around and hitting some other presentations on Thursday or Friday. I look forward to meeting some blog readers and subscribers there.

Introducing the Quantifiable Edges Guide to Fed Days!

Blog readers and Quantifiable Edges subscribers are likely well aware that I have published numerous studies and trade ideas related to Fed announcement days over the years. After much work and significant additional research I have now decided to release The Quantifiable Edges Guide to Fed Days.

The Quantifiable Edges Guide to Fed Days examines Fed Day historical tendencies from a vast array of angles. After reading the guide you’ll have a detailed understanding of what factors have had the greatest influence on performance both on and around Fed Days.

Day and swing traders alike will be able to use the guide to take advantage of historical probabilities. Whether it’s gaps, early morning moves, intraday tendencies, or edges that persist for several days, I examine it. And while none of the strategies discussed utilize time frames beyond 2 weeks, even intermediate-term and long-term investors would be well served to understand the information within.

And in addition to the Quantifiable Edges research you’re likely already familiar with, there are also special contributions and insights from Tom McClellan and Scott Andrews.

The Quantifiable Edges Guide to Fed Days is available in ebook format immediately and paperback within the next week. With the next Fed Day rapidly approaching on June 23rd I decided not to delay the ebook release any longer. I’ll be sure to post notification to again when the paperback version becomes available later this week.

For more information on the Guide and to order your copy, you may use the link below:

http://www.quantifiableedges.com/fedguide

99% Down Volume Days

The NYSE Up Volume % came in under 1% on Friday. In other words, over 99% of the volume was in declining securities. Breadth this extreme is remarkable. According to my database there have only been 4 other days since 1970 where the NYSE Up Volume % came in at under 1%. I’ve listed them below along with their next-day returns.

Traders may also want to a look at these dates on a chart. You’ll note that they all either marked an intermediate-term low, or were very close to one.

What Thursday's Uninspired Rally Suggests

Thursday’s market action was marked by low volume and a narrow range. Both came in at the lowest levels in over a month, Such uninspired action has often led to pullbacks in the past. Below is a study the Quantifinder identified that illustrates this. It was last published in the 7/20/2009 Subscriber Letter.



The edge isn’t huge but there does appear to be a downside tendency.

What the CBI's Extended Stay in Double Digits Suggests

Since the Capitulative Breadth Indicator (CBI) spiked a couple of weeks ago I’ve been updating it each afternoon on Twitter. Http://twitter.com/qerob Below is an updated chart of recent activity from the members section of the website.




The CBI closed Wednesday at 10, which is as low as it has been lately. This is now the 9th trading day in a row with a close of 10 or higher - a very long stretch for such an extreme reading. This raises the question of whether having such strongly oversold stocks take so long to bounce suggests anything. Is this failure of the CBI to drop back down a sign of more market weakness to come? Or does it suggest that perhaps it is just taking some time to carve out a meaningful bottom?

I ran some tests and frankly there weren’t enough instances to tell. The only two other instances where the CBI managed to stay above 10 for at least 9 days were 12/16/96 and 9/28/01. In both cases we saw strong rallies that lasted at least a couple of months. If I loosen the requirement to only requiring the CBI to remain at 10 or above for at least 6 days rather than 9, then two more instances arise. They were on 9/4/98 and 7/25/02. These didn’t mark bottoms but they were followed by powerful 1-month rallies.

This isn’t decisive proof that a rally is about to emerge. Still, the stubbornly high CBI certainly doesn’t appear to be bad news.

A/D Line Highs And Maximum Risk

This past week I had the pleasure of interacting with Tom McClellan of McClellan Financial Publications (http://www.mcoscillator.com/). Tom shared a study with me that supported some breadth related studies from the Quantifiable Edges Subscriber Letter that I’d been discussing the last few weeks.

Tom’s study looked to measure market risk when the A/D line was making new highs. To accomplish this he examined any time the Advance/Decline line made a 3-year high and then looked forward 3 months to see what the max drawdown was in the SPX. The SPX has not managed to make a 3-year high in the A/D line recently. It DID make a 2 ½ year high about a month ago though. So I re-ran the study with Tradestation data (which should be very similar) and used a requirement of a 2 ½ year high instead of 3 years.

Note: A full year typically contains about 252 trading days. For purposes of this test I rounded that down to 250 and multiplied by 2.5 to get 625 trading days. To estimate 3 months I used a 63-day period. Also note that the flat spots on the chart are times when the high A/D condition is not met.

(click chart to enlarge)


As you can see above, since 1970 there has only been one instance that saw a larger drawdown over the following 3 months than we’ve already seen this past month. Other corrections were generally capped at between an 8% - 10% decline. This doesn’t mean we can’t drop precipitously from here. The market has demonstrated several times in the past few years that it is completely capable of breaking records. It does show that we’ve reached an area where risk has pretty much maxed out in the past under similar conditions – at least temporarily.