How can you tell if it's a bull or a bear? This page helps answer that question. It contains the eight long-term indicators suggested by Stan Weinstein in his book Secrets for Profiting in Bull and Bear Markets (chapter 8: Using the best long-term indicators to spot bull and bear markets). Before getting into them, heed his advice: use all of the indicators collectively to discern the Weight of the Evidence conveyed by the group. The indicators are useful precisely because they force you to look at multiple aspects of the market: price action; trend; market breadth (i.e., what individual stocks are doing); leadership; international markets; value; and sentiment.
Explaining how he avoided the 1987 stock market crash, Weinstein writes the following:
"How did I do it? Simply by doing my technical homework and listening to the message of my long-term indicators."Here are the indicators, with live charts that will be up-to-date whenever you visit.
1. Stage Analysis
Stocks and markets repeat a pattern of four stages: basing, rising, topping, and falling. Weinstein states that when the Dow breaks below its 30-week moving average it is breaking down into stage 4 and signifies that it is time to be cautious. I am using the S&P500 for the US market and the TSX Composite for Canada.
What to look for: If the current price is above MA(30) that's bullish, if it's below that's bearish.
2. The Cumulative Advance-Decline Line
The A-D line is the difference between the number of stocks advancing and declining each day. When advances outnumber declines the A-D is positive; when declines outnumber advances the A-D is negative. A more illuminating way to visualize the message of A-D is to plot the cumulative Advance-Decline line, which is shown below. The numerical value of this line is not important - it is the direction of change that matters.
What to look for at the top of a bull market: if the A-D line is rising as the US market is rising it's less likely that the US market will experience a significant correction; however, if the A-D line fails to rise as the US market continues higher that is "negative divergence" that could signal trouble on the horizon. Should the divergence last only a few weeks then the market is more likely to continue the bull run; but if the divergence continues for a few months that is a reason to be defensive. In short: the A-D line is expected to peak before the market.
What to look for at the bottom of a bear market: forming a major bottom is likely to occur when the market stops dropping as the A-D line continues to fall. In short: the market is expected to bottom before the A-D line.
Long-term cumulative A-D line for the New York Stock Exchange with 30-week MA.
To more readily see divergences, view the daily A-D line and the price data on the same chart.
3. Internal Market Momentum
Weinsten proposed a momentum index which is the 200-day moving average of the NYSE raw A-D line. The intent of this indicator is to reflect the dominant trend of the market, recognizing that "a trend in motion can be expected to continue until it reverses." Generally this is more useful for warning of tops than finding bottoms.
What to look for: 1) the most important signal is when the line crosses zero in either direction; 2) the signals are most meaningful when the line has been above or below zero for a long time; 3) most significant moves can be expected when the indicator moves from deep positive or negative and rapidly crosses zero; 4) most meaningful bearish signs occur when the momentum has been far above zero; 5) in a bull market expect this index to peak before the market. You can see the daily chart here.
4. New Highs vs New Lows
This indicator tracks the number of stocks making new 52-week highs and 52-week lows on the NYSE. Each week, add the number of new highs (a positive number) to the number of new lows (a negative number) and the difference is the NH-NL value. In the charts below, take the current value on the right side and do the math yourself to see if the NH-NL is positive or negative. Alternatively, you can chart the difference here for the NYSE and here for the NASDAQ.
What to look for: 1) It is bullish when the NH-NL value stays consistently above zero; bearish when it stays negative. 2) Watch for divergence between the NH-NL and price action. In other words, when the market makes new high prices the NH-NL value should also be high, if the market moves up but NH-NL makes new lows, take your warning.
NYSE New Highs
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NYSE New Lows |
5. World Markets
Stocks and markets don't operate in a vacuum but are somewhat interdependent. Weinstein's studies taught him that the most profitable moves came when the majority of world markets were in agreement (both bullish and bearish). Ideally a person would follow all markets individually but this is time-consuming. Instead, he suggested to simply watch the world market average, which I've shown below as the Vanguard FTSE All World Index.
What to look for: If the current price is above MA(30) that's bullish, if it's below that's bearish.
6. As the Leader goes, so goes the market
The most heavily traded stocks followed by institutions are important drivers of the market. In Weinstein's day General Motors filled this role. Today, perhaps AAPL is more suitable?
What to look for: 1) if this stock flashes a major signal, pay attention to it. 2) Weinstein's "four month rule" which states that if this dominant stock goes four months without making a new high (in an uptrend) or low (in a downtrend) then you should consider the trend to have reversed.
7. Looking for Value: Price to Dividend
Weinstein rounds out the indicators with a look at the fundamentals. In this case, he is interested in the cost of buying a dollar's worth of dividends. He used the Price-to-Dividend ratio, but I am using simply the dividend yield, which is the inverse of the P/D. For example, the current yield for the S&P500 is about 2.1% and the current price is about $1180 giving a dividend of about $25 and a P/D ratio of 48. Either way we get a big-picture view of how today's market compares with very long-term history. Weinstein points out that a P/D above 26 is "dangerous" and above 30 is "extremely overvalued" and a crash is probable. Above 40 (yield below 2.5%) Weinstein says there is "plenty of excesses to be wrung out of the tape." This is where we currently sit -- this evidence suggests today's market is quite overvalued!
What to look for: This is not a precise indicator for timing purposes, but a guide of where we are relative to history. If the current yield (blue line below) is below average (yellow dashed line) the market appears overvalued (keep an eye on the exit); if the yield is above average the market is possibly undervalued.
S&P 500 Dividend Yield
Another version of the same chart is available here from multipl.com, and they also plot the Price/Earnings ratio.
8. Going Against the Crowd
This is the only subjective indicator Weinstein includes. He cautions that although it is valuable, very few are able to use it (perhaps this is inherent in the very idea of being contrary to the herd). He says:
"do not make the mistake of so many contrary-opinion buffs and try to force an answer from contrary opinion (CO) every week or even every few months. A true CO signal may not arise for a year or more. It is only valid when a prevailing theme starts to play through the media and is thoroughly accepted from Wall Street to Main Street. Don't think CO consists of merely calling your broker, finding out he is bullish, and then deciding you are bearish."Weinstein comments that the AAII sentiment surveys are useful but for major signals he prefers the financial press and mainstream media. Newspaper headlines are a good indicator because the writers tend to feed back into how the public feels.
What to look for: if you collect headlines that prompt you to think a contrary opinion is due, the most important thing to do is wait for your other indicators to confirm this perspective. Looking at the AAII survey, broadly speaking, if everyone is bearish that's bullish; if everyone is bullish that's bearish.
American Association of Individual Investors Survey (AAII)
