Stepping Back for a ‘Big Picture’ Review

Yesterday I noted the long-term bearish implications of the Dow Utilities at a
52-week low, but that's not the only long-term indicator signaling trouble
ahead. Note that the Last Hour indicator is climbing sharply after a multi-
year selloff. The magnitude of the selloff is best seen on this long-term
chart spanning nearly forty years. While the indicator and price generally
move in sync, there are times when they'll suddenly diverge. The current
divergence is unprecedented in terms of duration (nearly three years), but
it's not unlike what was seen in 2000, 1987, 1975-76 and 1971-72 periods. The
last hour of the day consistently underperformed the first hour for an
extended period (seen by a falling line). And in each case, this
underperformance proved to be a valuable clue regarding smart money activity.

We've recently experienced the most extreme underperformance seen in the past
forty years. And we're now beginning the retracement period in which the
indicator has started to reclaim some of the selloff of the past three years,
meaning the last hour has started to consistently outperform the first hour.
That's typically a dangerous sign from a long-term perspective until the
retracement is complete and the indicator gets back in sync with the market.
But it's going to take a long time, or a very big move, for that to happen.

Remember how the Last Hour is calculated... (today's close - today's 3pm
price) - (today's 10:30am price - yesterday's close). One likely scenario that
would keep the Last Hour pushing higher is the occasional 'big down' open. For
example, say the Dow is down 300 points after the first hour of trading and
goes nowhere during the last hour of trading. Plug those readings into the
formula above and we have (0) - (-300). Because subtracting a negative number
is actually adding, the final reading for the Last Hour indicator would be
+300. If the Dow had actually gained ground in the final hour of trading (say
100 points), the final reading would be even higher (+400). This is a long-
term indicator and doesn't provide any clues as to when such big down opens
may occur. It should, however, serve as a reminder that these types of
sessions could begin to occur with more frequency. We may have had an early
taste last Friday, when the Last Hour gained over 200 on the heels of the
sharply lower open. Note that each day's final reading is available on the
nightly datasheet.

Other 'big picture' negatives include...

The high NASDAQ/NYSE volume ratio. I think this is more a function of
unusually low institutional participation as opposed to excessive speculative
participation, but either way it's not a long-term positive to see the 20-day
average near 1.50.

The excessive number of 90% down volume days seen in the past year, signaling
heavy institutional selling, and the fact that these lopsided volume sessions
haven't been the reliable longer-term bullish signals they once were.

The fact that the S&P500 broke down in January below 1400, violating a major
double bottom in the process. I call it 'major' because both the August and
November 2007 lows were accompanied by a big spike in new 52-week lows.
Historically, when we see over 500 issues hit new 52-week lows, it ends up
relating to a major market bottom that typically holds for years. The fact
that the market didn't manage to hold those lows and is now running into
resistance at 1400 (former support) paints a fairly bleak picture.

Unusually low principal program trading. After the kind of sharp selloff we've
seen in recent months, you'd expect a spike in program activity as
institutions spot opportunities. But principal activity continues to drag
along at multi-year lows, reflecting no interest among the institutional
crowd.

This can also be seen in indicators like the QQQQ customer/market maker ratio,
which is a ratio of all QQQQ options volume attributable to customers divided
by options volume attributable to market makers. In a healthy environment,
customers (which includes any non-member firm) make up more of the daily
volume than market makers, reflecting active participation and interest. But
note that the 20-day average of the ratio fell below 1.0 last May and has
remained mostly below 1.0 ever since. Customer volume just isn't there, and
that's not a positive.

Along similar lines, the put/call open interest ratio for index options is on
the verge of falling below 1.20, signaling low levels of index put volume.
That's also not positive, as it implies a reduction in institutional hedging
activity, which in turn implies a reduction in buying.

Categories : Archived EOD Commentary, End-of-Day Commentary

 Print This Post