Today was a good day for the bulls. The S&P 500 hit another new high. Meanwhile the Dow, Nasdaq, and other broad measures all rallied nicely. As I’ve been saying for the last few weeks, I believe we are in a market prone to oscillations. I feel the easiest way to may money in a market like this is to play those oscillations. SPY and MDY seem to be the most stretched at this point. They will most likely provide the most snap-back power to the downside. I feel it is time to start scaling in short and I have begun to do so.

Today I’d like to look at a few charts. The first is an updated chart of the S&P 500 with the 14-day RSI shown at the bottom. Higher price highs and lower RSI highs are becoming common. This is not encouraging for the bulls. Please see my November 13th column for a detailed discussion of this.

This next chart depicts the Relative Strength of the Nasdaq vs. the NYSE. Historically, when the Nasdaq has lagged, the market has struggled to make headway. This concept was illustrated quite nicely in Gerald Appel’s book “Technical Analysis – Power Tools for Active Investors”. In the book, Mr. Appel suggests using a 10-week relative strength indicator to measure the strength of the Nasdaq vs. the NYSE. This is what I’ve done in the chart below. The way the indicator works is as follows: When the red line is above the yellow line, the Nasdaq is leading the NYSE. When the red line is below the yellow line, the Nasdaq is lagging the NYSE. Since 1971, nearly 100% of the market’s gains have occurred when the Nasdaq is leading rather than lagging. Friday was the 1st time this indicator switched directions since the Nasdaq took the lead at the end of August. This may be a blip, as the red line is higher for this week so far. It will be interesting to see how this week finishes out and if we start to see some separation. Should the red line continue to sink, that could be a bad sign.

The bulls are back in charge again today, and there is nothing wrong with that. But there appears to be some froth, and rather than getting caught up in the excitement, I believe it’s likely a better idea to play the overreactions.

Best of luck with your trading,

Rob

Rob Hanna is the principal of a money management firm located in Massachusetts. He has spent the last several years developing and refining methods for trading in stocks across multiple time frames. He selects stocks using both fundamental and technical criteria, and then trades them using technical analysis techniques.