It ’ s Your Money
Stock Market Indicators
By Mark J . Funt , DMD , MBA
Up until now , I have written on ways to evaluate individual stocks ( equities ) for investment . Many individuals are uncomfortable purchasing individual stocks and are looking for instant diversification by investing in stock indices . Some people do not like the stock market in general . Still other investors only want to be invested in stocks when the market is going up , and to be out of stocks when the market is going down , a strategy that I do not recommend called market timing . Besides using technical and fundamental analysis to evaluate the market as we do stocks , there are specific indicators that can be used to evaluate the stock market in general .
One of the more popular theories is called the Dow Theory . Although this is a long and complicated theory founded by Charles Dow more than 100 years ago , it is used as a confirmation theory . Basically , the theory looks at the Dow Transport Average and compares it to the Dow Jones Industrial Average . The theory behind the “ theory ” if you will , is that if the shippers ( rails and trucking companies ) are increasing their profits , it ’ s because they are shipping more goods to more people , which is positive for the economy .
The only problem with the Dow Theory is that airlines make up part of the Transportation Index . Obviously , airlines were not a factor 100 years ago . On the other hand , airlines have been a drag on the transportation index as of late , so perhaps any increase in the index would largely be by the shippers , a positive economic sign . Anyway , if the Dow Jones
Industrial Average is going up , one looks for confirmation to the Transportation Index . If both are going up at the same time , that is a positive sign for the market , and if there is a divergence where the Industrials are going up but the transports are going down , that may indicate the stock market increase is tentative . Dow was also a big believer in volume . It is a positive sign for the stock market when it is increasing on heavy volume , and a bad sign when it is increasing on light volume . This is classical technical analysis .
Advance / Decline Line ( TICK Index ) — This is one of the more popular measures used in determining the breadth of the market move . It ’ s a very simple calculation where all you do is take the stocks that rose for the day and subtract from them the stocks that fell in price for the day . Any positive number will tell you that more stocks were rising then falling while a negative number will tell you more stocks are falling in price . What is most important is the quantity of the number of stocks that are rising and whether or not that number is increasing or decreasing over time . The greater the number of stocks that are rising , the greater the market breadth and the stronger the conviction to the rally . In some cases , the TICK Index can be used as a contrary indicator . If the number of advancing issues approaches + 1000 on a consistent basis , many investors see this as an overbought market ripe for a correction ( pull back in the market ) and vice versa . When there is too much good news , many investors view that as a contrarian indicator and a time to sell stocks . On the other hand , when there is too much bad news , investors use this signal to buy , another contrarian indicator .
Arms OR TRIN Index — Developed by Richard Arms , this index measures whether the market is overbought or oversold by measuring how much volume is behind the above mentioned advance / decline line .
The calculation is : ( Advancing issues / declining issues / ( advancing volume / declining volume ).
A TRIN Index of 1 means there is equal volume between advancing issues and declining issues and the market is at a standstill . However , if the TRIN Index is rising or above 1 , that means that more volume is moving into declining stocks , a bearish indicator . If the TRIN Index is below 1 , that means there is a healthy amount of volume going into stocks that are rising . Many investors will use a 10- or 20-day moving average to smooth out the daily fluctuations and get a better feel for which direction the market may be heading . Arms believes the market is overbought when the TRIN declines below 0.8 and oversold when the TRIN moves above 1.2 This is another example of a contrarian indicator .
New highs vs . new lows — Take a look on a daily basis of the number of stocks hitting new highs vs . the number of stocks hitting new lows . A strengthening market will show the number of new highs continuing to increase and visa versa .
200 day moving average — Because the 200 day represents 40 weeks ,
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May / June 2010 • Pennsylvania Dental Journal
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