I thought I would take a look at a key indicator I use along with chart patterns and technical indicators; one that has been very good at measuring trader 'sentiment' and I use to assess trader psychology. I've always been interested in the mood of the market or how bullish, or how bearish, market participants are. Charles Dow was the first to realize that when the predominant or pervasive outlook for a further rise or a further decline in stock prices was always, at SOME point, a CONTRARY type indicator; hence the term 'contrary opinion' as in contrary opinion surveys or the theory of contrary opinion. Dow notices that at market bottoms, most or nearly all of the public investors and this would include public fund managers, are bearish. Coming into major or even intermediate-term tops, nearly everyone is bullish. The exception tends to be very savvy professional type traders and private fund managers. They tend to be buying at bottoms and selling at or near tops.
On the weekend, in my INDEX TRADER column seen online, I noted that I was bullish for a rise to AT LEAST the prior highs in the S&P with some likelihood for a move to 1480 (or higher) in the S&P 500 and to 690 (or higher) in the S&P 100 (OEX). One of the things that made me fairly confident of this view on Friday was my reading of trader sentiment. I was helped considerably in this view by sentiment indicator, a simple ratio of total CBOE daily equities volume (only excluding index volume) relative to total CBOE daily equities put volume. On this past Friday, while the major indexes broke out to a new 30-day high and the PATTERN looked like a bullish run to the prior top, my sentiment indicator rose only slight; i.e., more bullish (falling is toward more bearish). In fact why I divide call volume BY put volume is to get the numbers just this way; a rising indicator is MORE bullish, a FALLING indicator is more bearish.
Before I rattle on any further let me set up a LINK to my most recent Index Trader for those who might want to peruse that and didn't already, for shame. You can click here to see this.
I have to make good use of my time as I have to get off soon to make one of my rare appearances at a Market Technicians Association (MTA) meeting, as I know the speaker, Charlie Kilpatrick; I gave him his first Charles H. Dow Award, which I originated when toiling for Dow Jones years ago.
Anyway, I'll note with my first chart what I mean about the LACK of much of a rise in bullish sentiment keeping me bullish. And why aren't most traders more bullish on a day when the market, to me anyway, looks clearly like it is breaking out? It's because we tend to follow the crowd and the opinions of too many rather than trusting our own instincts; I would say we don't rely enough on what we SEE.
I turned to TECHNICAL analysis years ago as a commodities trader because I found analysts leading me too often down the wrong path too often and I was looking for a more OBJECTIVE way to measure market trends and possible impending trend reversals. I look at price and volume, that's it. What's the market actually doing! I do follow fundamentals of course, but not others opinions. You may find it hard to believe, but I only use my TV for DVD's and don't have any broadcast or cable feed. Well, I got broadband and internet of course.
On to the chart I showed in my aforementioned Saturday column, with some changes in notations and this one updated through today of course. You'll note below the move to new highs in the S&P 100 (OEX), which of course was mirrored in the bigger S&P 500 (SPX) index and by the Dow 30 (INDU); NOT by the Nasdaq or the Russell (2000) which should keep us from getting too carried away in bullish enthusiasm. Actually, for this recent move into new high ground, a SIMILAR move by the lower indicator ("CPRATIO") to move up into what I call the 'overbought/extreme bullishness' zone as you can see. That indicator rose only slightly on Friday; Friday's price range or bar is outlined in yellow; meanwhile my sentiment indicator barely rose. Then, it actually dipped into yesterday (Tues) just because the market paused it seemed. As long as my fellow traders DON'T get wildly bullish, I'm keeping some of my OEX calls a while longer. Why not(!) since I'm playing on the house's money so to speak, as the profits I already took already are well over what I paid for the options. Ah, the beauty of calls and puts, relative to index futures!
Anyway, the type of thing I LOVE to when I'm profiting from my own little contrary opinion play, is the market going sideways in an 'obvious' (well, it seemed so) consolidation, while trader sentiment dips or becomes more bearish. This you can see in the direction of the opposing lines above designating the directional move of prices relative to my daily sentiment indicator, plotted below the OEX chart.
By the way, I consider the real 'test' to come for the strength of the current market is hot just the move to a new high, which seemed fairly obvious at some point, but what happens when and if the Index gets back up to its previously broken up trendline, as noted by the red down arrow in the 690 area currently (see above). Getting back to this trendline, and it sometimes acts as a rally stopper (the 'kiss of death' trendline), is where an index or stock gets back to its prior rate of change or upside MOMENTUM. An inability to get back to the same rate of price increase is sometimes a key event. A stock or index may go to a new high, but momentum is slowing some relative to past months. Such subtle shifts are part of watching what you SEE, not just what you hear from others.
On a final analytical note, we see the same prior trendline, as well as a prior high, acting as a possible stopper in the Russell 2000 (RUT) chart, which is my next chart. If we keep looking at everything, not just our favorite index or indicator, we will SEE more. There's not a lot to say here and this (chart) picture is worth tons of words, at least accompanied by the level line highlighting the prior top AND apparent resistance at the longstanding and previously 'broken' bullish/up trendline.
Stay tuned of course on what happens next, but this index has reflected a previous favorite theme of small to mid cap stocks and either this theme will start finding less favor or it marks something else. The something else might be to not to get TOO bullish, which is maybe why trader sentiment HASN'T reached a bullish extreme. My sentiment indicator probably will reach such an extreme however before this market comes down much; enough at least to make a downside option play worth doing.
Too rarely do we really take stock of ourselves and look INSIDE at what might be keeping us from profiting in our trading and even what we are looking to get out of options trading. I've known many who trade 'as if' it is gambling and just throw the dice. Such folks rarely admit that this is the way they see the market. Or, they use the toughness of figuring out market trends and when to get in or stay OUT and may use their view that the 'random' nature of the market makes consistent profiting in the options game too tough for most of us who are up against professionals and the like. Some traders I've known are into speculative trading for the 'action' and thrills it can provide. These folks are pretty sure long-term losers in the profit and balance sheet at the end of each year.
I don't often recommend books about the market and trading, but an old friend from this web site actually, Mark Whistler, wrote an interesting and different sort of book that's only recently out. His book focuses on getting straight with our internal motivations and our own pitfalls in attitude that work against us. This is not a new theme, but one we look at rarely if at all. Mark's book is called "Trade with Passion and Purpose; keys to becoming a TOP TRADER". The book is published by Wiley and I brought Mark to the attention of my Wiley Editor on his first book idea which became "Trading Pairs", about arbitraging similar or dissimilar-acting stocks or indexes.
Mark begins Chapter 1 of his new book with 'finding your purpose-center' or looking at the kind of success you want to achieve in trading. He guides people through putting some thought and writing down, a trading-purpose statement. He is right in knowing that the primary step in ensuring our success in trading (and in life) is knowing precisely why we're doing what you're doing. Trading brings a lot of stress at times and it helps to have an answer to why you trade. For example, if you determine that losses are eminently worthwhile, which has guided many great traders, rather than kick yourself for failure in the market, you could make a determined effort on any and every loss to see what you missed outside in the market, or inside, in yourself; e.g., I was too greedy; I didn't listen to my instincts; I couldn't admit I was wrong in the trade and cut the loss quickly; etc., etc. etc.
Mark has chapters on self-honesty, being humble (hey, the markets humble us all), being courageous, forgiving, about fear, anxiety, intuition, gratitude, stress and relaxation. An interesting read. A quote: "When life blows up, make a change!" He interviews many successful people, among them major traders such as Joe Richie, whose CRT firm was the world's largest options trading operation in the world in the 80's. Joe has some good insights and advice, as do many of those interviewed by Mark. A sample quote from Joe Richie: "...don't get cocky. If you're starting to think you're hot stuff just because you're making a lot of dough, then you'd better hope you lose it all and get your soul back in the bargain."
Thats it for me today. Be well and ...