The Value of the ‘Perspective’ Indicator

Not every indicator that you look at needs to generate exact buy and sell signals.  There are many useful indicators that offer “perspective” more than “precision market timing.”  It can be very helpful to track some of these.

 

The downside of course is that the more indicators you follow the more you can be susceptible to “analysis paralysis” – plus at some point you do have to have “something” that tells you “make this trade NOW!”

 

But the basis for considering tracking certain “perspective indicators” is that they can help to keep you from falling for those age-old pitfalls, “fear” and “greed”.  As the market falls – and especially the harder it falls – the more likely an investor is to start to feel fear.  And more importantly, to start to feel the urge to “do something” – something like “sell everything” to alleviate the fear.

 

On the flipside, when things are going great there is a tendency to ignore warning signs and to “hope for the best”, since the money is being made so easily.

 

In both cases a perspective indicator can serve as – at the very least – a slap upside the back of the head that says “Hey, pay attention!”

So today let’s review one of my favorites.

 

 

OK, I will admit it is one of my favorites because I developed it myself.  Although in reality the truth is that it simply combines one indicator developed long ago by Norman Fosback and another that I read about in a book my either Martin Pring or Gerald Appel.

 

The calculations are as follows:

 

A = the lower of Nasdaq daily new highs and Nasdaq daily new lows

B = (A / total Nasdaq issues traded)*100

C = 10-day average of B

D = Nasdaq daily new highs / (Nasdaq daily new highs + Nasdaq daily new lows)

E = 10-day average of D

 

In a nutshell:

 

*High readings (90 or above) suggest a lot of “churning” in the market and typically serve as an early warning sign that a market advance may be about to slow down or reverse.  That being said, a close look at Figure 1 reveals several instances where high readings were NOT followed by lower prices.  However, as a perspective indicator note the persistently high reading starting in late 2014.  This type of persistent action combined with the “churning” in the stock market could easily have served as a warning sign for an alert investor.

*Low readings (20 or below) indicate a potential “washout” as it indicates a dearth of stocks making new highs.  Readings under 10 are fairly rare and almost invariably accompany meaningful stock market lows.

 

Figure 1 displays the Nasdaq Composite (divided by 20) with the JK Hi/Lo Index plotted since 2011.

 

 

Regarding the difference between a “timing” indicator and a “perspective” indicator, note the two red lines in Figure 2.  The JK HiLo Index first dropped below 20 on the date marked by the first red line.  It finally moved back above 20 on the date marked by the second red line.

 

 

Figure 2 – JK HiLo Index (red line) versus Nasdaq Composite (/20) since 2015 (Courtesy TradingExpert)

 

Can we say that the JK HiLo Index “picked the bottom with uncanny accuracy”?  Not really.  The Nasdaq plunged another 10% between the first date the indicator was below 20 until the actual bottom.

 

Still, can we also say that it was useful in terms of highlighting an area where price was likely to bottom?  And did it presage a pretty darn good advance?  I think a case can be made that the answers to those questions are “Yes” and “Yes”.

 

 

The bottom line is that while there was a great deal of fear building in the market during January and February, an indicator such as this one can help alert an investor the fact an opportunity may be at hand.