3 Indicators I Use to Predict Stock Market Bottoms

There are three intermediate term indicators that do a good job picking out intermediate term lows (sometimes major lows) in the markets and they are:

1. Bullish Percentage Index
2. Percent of NYSE Stocks Above Their 200-Day Exponential Moving Average (EMA)
3. On-Balance Volume (OBV) Indicator Set.

When all of these indicators point to the same conclusion, a more reliable signal is generated. Each of these indicators tells its own story of what the market is saying. In this article, I will explain each one and explain what that indicator is saying on the current market conditions.

Bullish Percentage Index

Let's take a look at Bullish Percentage Index. The Bullish Percentage Index (BPI) shows the percentage of point & figure chart buy signals for all the stocks in a given index. This chart tells us if the index is medium-term overbought or oversold based upon price.

It's not our intent to have a lesson in how Point and Figure charts work and how they function, (a student can Google Point and Figure charting to learn more). Rather, it's our intent to show how this indicator works in real markets.

Below is the SPX dating back to 1996 and in the bottom window is the Bullish Percentage Index. Intermediate term lows have formed when BPI reached the 20% range. BPI reached the 20% range five times since 1996 and in all cases have lead to worthwhile rallies. Notice on the chart below that BPI correctly picks a low in October 2001 (a bear market at the time since the 200 day moving average was trending down) where the market rallied for the next three months and gained nearly 20% on the SPX. Mid-January 2008, the BPI index again hit below the bullish 20% level and suggested the market had made an intermediate term low.

Percent of NYSE Stocks Above Their 200/50/20 EMA

The next chart is the Percent of NYSE stocks above their 200-day EMA. To help identify intermediate term lows, look at the percentage of NYSE stocks above their 200-day moving average.

When we look at all NYSE stocks combined, we find that when the percentage of stocks trading above their 200-day EMA drops to 20% or less, the market has, on a historical basis made an intermediate-term low. I believe this occurs because the market is undergoing a selling climax and has become oversold.

The chart below is the NYSE going back to to 1987. The window below the NYSE chart shows the "NYSE Stocks above 200-day moving average." When the "NYSE percent of stocks above 200-Day EMA" falls below 20%, the bargain hunters come to the table to buy stocks cheap. Since 1987, each time the number stocks above their 200-Day EMA fell below 20%, the market rallied a healthy percentage. This has occurred nine times (not including early-2008, which is unfolding at the time of this writing).

Notice also that "NYSE stocks above 200-Day EMA" fell below 20% and helped pick out the October 2001 low (circled in Blue on chart) and help confirmed the Bullish Percentage Index that was generating a bullish signal at the same time. At the time of this writing in February 2008, we expect the current situation to have a similar bullish outcome. Notice the current bullish (NYSE stocks above 200-Day EMA below 20%) supports the bullish BPI above.

On-Balance Volume (OBV) Indicator Set

The next chart is On-Balance Volume (OBV) Indicator Set. On Balance Volume, OBV was invented by Joe Granville. OBV is calculated by adding the daily volume to the cumulative total of volume if the stock closes higher than the previous day, or subtracting it if the stock closes lower. Days on which their is no change are ignored. Therefore, OBV helps a trader to identify the volume flows of an stock or index and determine if it's bullish or bearish. Traders can Google On Balance Volume for more in-depth explanation.

There are three indicators that I use that are derived from OBV.

1. The Climactic Volume Indicator (CVI) measures extreme OBV movement within the context of a short-term OBV envelope for each stock in the index.
2. The Short-Term Volume Oscillator (STVO) is a 5-day moving average of the CVI.
3. The Volume Trend Oscillator (VTO) summarizes rising and falling OBV trends.

These charts tell us if the index is overbought or oversold based upon volume in three different time frames. We are interested in the intermediate term timeframe and will be examining Volume Trend Oscillator (VTO). The chart below is the S&P 500 (SPX) dating back to 1999. The bottom window is the Volume Trend Oscillator. When VTO reaches below -50, we have found that, historically, the SPX is near a low. VTO hit below -50 seven times (not including current reading at the time of this writing which is below -50) going back to 1999. In all cases this precided, a worthwhile rally. Notice that a bullish signal was generated by VTO in October 2001 (Bear market bounce), just as BPI and NYSE stocks above 200-Day EMA below 20% did.

We have three intermediate term indicators (BPI, NYSE stocks above 200-Day EMA below 20% and VTO) showing bullish signs for a bottom now. Not every indicator works all the time, but when there are several indicators giving a bullish signal at the same time, the odds for a turn in the market increase significantly.

At the time of this writing in February 2008, we are at the crossroads for an intermediate term rally.

From the charts and indicators above, we can determine when the intermediate term looks bullish. From there, you can use this information to make your own trading and investing decisiosn.

Using Ord-Volume to Predict Short-Term Tops and Bottoms

Now, I will show you what I do with this information using my own market timing tool called Ord-Volume.

Let's take a look at the short term timeframe and try to decipher what going on there.

Below is a charting program I developed that shows the average daily volume between swing highs and lows. This program was built on the premise that the highest volume goes in the direction of the trend.

It is said that in a bullish trend stocks rally on heavy volume and correct on lighter volume and vice versa for a bearish trend. We put this concept in a graphic form and called it Ord-Volume. Let's take a look at Ord-Volume and see what it says. The Ord-Volume chart below dates back to March 2007. Let me walk you through the action here:

• On the up leg from early March 2007 to early July 2007, Ord-Volume comes in at 2.93 billion average daily volume.
• The decline from July to August shows an increase of Ord-Volume 51% compared to the previous up leg and suggests the market is building a top because the down leg had more energy then previous up leg.
• The SPX rallies from the August low to the mid-October high and volume shrinks by 48% compared to previous down leg and shows previous the down leg had more energy which is a bearish sign.
• SPX declines from mid October high to first low in late November and shows the down leg had 27% more energy then previous up leg and implies market is rolling over to the downside.
• The Market works lower into late January and drops into late January shows 3.94 billion shares average. The leg up from the late January low shows 4.75 billion shares average, an increase of 21% compared to previous leg down into the January low. This is a short term bullish sign as volume shows more energy on rally leg. Lets take a look a the shorter term time frame on the next chart.

Next chart is an even shorter term timeframe. The current down leg (ending 2/8/08 when we finished this report) shows a decrease in force by 16% compared to previous up leg so the price as of Friday's close was still bullish.

On a very short term scale (on February 8, 2008) it looks as though the SPX formed a Rising Wedge from the 1/23 low as volume did shrink on the rally legs inside the Rising Wedge pattern. Rising Wedges have downside target to where they began and on the current pattern that would imply a decline down to 1270 range, the January 23 low. If the current SPX down leg does manage to work lower and does test the January 23 low, the current down leg does mange to show at least 10% lighter Ord-Volume then the previous up leg into the February 1 high then that condition would trigger a bullish signal. Remember our intermediate term indicators are bullish; therefore any buy signal in this range should be profitable in the weeks to come.

In this article, I've shown you three market timing indicators that I personally use in order to identify intermediate-term bottoms. I personally use my own volume analysis in order to refine bottom signals that I can incorporate into my trading as well us provide timing signals for subscribers to my newsletter. Be sure to also read the follow-up lesson to this article in which I show you how to combine these indicators to with short-time time tools in order to pinpoint major market bottoms.

Learn more about Timothy Ord as well as Ord-Volume software here.