Stock Market Support Remains Low

By: Donald_W_Dony

Sustainable multi-year advances in the stock market requires a background of improving fundamentals plus an expanding economy. On a more simplistic level, a bull market is when the fundamentals create an environment where the majority of stocks are trending up. However, investing conditions periodically build where the majority of stocks in an index are turning down short-term. This is when a deep correction can occur.

Chart 1 illustrates the percentage of equities on the New York Stock Exchange (NYSE). During the last bull market (2002 to 2007) the number of advancing stocks basically remained in a band between 50% and 90%. This high level of rising stocks to declining equities produces a stable steady increase. Since the beginning of the present bull market (March 2009), the percentage of stocks trending up has remained at a comfortable 50% or higher. This is in line with past bull markets and expanding economies.

However, the recent concerns over the European debt crises and the perceived challenges with the US economy, has driven investors into a defensive stance. This position creates a selling environment. Since April, the percentage of stocks advancing has continued to fall. The number was as high as 80% (only 20% were trending down) in the 2nd quarter to it present 39.35%, which means 60.65% are declining. These conditions produces quick downward spikes and greater volatility. Friday's trading session on the NYSE is evidence of this very low market support.

Bottom line: The underlying support for the broad-based NYSE is rapidly falling. The number of stocks on the Big Board that is descending is almost 2 to 1 to the number of equities that are rising. The Volatility Index (Chart 2) highlights the elevated risk. The VIX is trading in the zone that corresponds to market peaks, strong corrections and final lows. As models suggest that the next major trough can be expected in September, the current percentage of stocks that are trending up (39.35%) can be anticipated to decrease even further.

Investment approach: The lack of market support, the elevated Volatility Index coupled with an expected six more weeks before the September low, strongly points to a high probability of a deep correction. Investors may wish to place protective stops on profitable positions, increase cash or move to short-term fixed income securities in their portfolios. On the positive side, models indicate a return to the bull market in Q4 as improving corporate earnings take affect and favorable seasonal conditions unfold.

Your comments are always welcomed.

By Donald W. Dony, FCSI, MFTA
www.technicalspeculator.com

COPYRIGHT © 2010 Donald W. Dony
Donald W. Dony, FCSI, MFTA has been in the investment profession for over 20 years, first as a stock broker in the mid 1980's and then as the principal of D. W. Dony and Associates Inc., a financial consulting firm to present.  He is the editor and publisher of the Technical Speculator, a monthly international investment newsletter, which specializes in major world equity markets, currencies, bonds and interest rates as well as the precious metals markets.   

Donald is also an instructor for the Canadian Securities Institute (CSI). He is often called upon to design technical analysis training programs and to provide teaching to industry professionals on technical analysis at many of Canada's leading brokerage firms.  He is a respected specialist in the area of intermarket and cycle analysis and a frequent speaker at investment conferences.

Mr. Dony is a member of the Canadian Society of Technical Analysts (CSTA) and the International Federation of Technical Analysts (IFTA).

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