There are a few things going on right now that have us at SlingShot Trader a little bit concerned on the bearish side. One is, from a technical perspective, this broadening range between higher highs and lower lows at the same time on the S&P 500, which I highlight on the chart in the video. That’s called a broadening formation.
Now, it’s not the best one I’ve ever seen. It’s not regular, but I’d say it’s fairly legitimate and it’s one that we’re definitely watching because it’s a fairly bearish sign. In fact, a head and shoulders pattern quite often starts out in a broadening formation when it has an uneven neckline that slants down. It’s something that we monitor in much the same way, meaning that oftentimes before the market really starts to turn down, the daily trading ranges get a lot wider.
For example, one way we measure that is to bring up an average true range indicator, which I show you in the video. What the average true range indicator measures is basically your extreme low from the day before to the close, or the extreme high to the close, depending on which direction the market is going. So, it’s kind of like looking at basically over a 24 hour period, what the maximum move from the market was.
Bullish markets tend to have an average true range that’s relatively low, so when the market looked a lot calmer, we had a situation where the average true range was declining. So, during the rally from December through January, as I show you in the video, the trading ranges were getting smaller and smaller.
They’re heading up right now. This is very much what happened before the decline in November, and if we back up on the chart, you can see the same thing. So, before the big decline in May, we had average true range beginning to take off. You can go back in time and say anytime the market is nice and smooth like at the end of 2011/early 2012, the average true range was downtrending.
So, an uptrending average true range, meaning the trading ranges on a day-to-day basis are smaller and smaller, that’s actually a really good sign, and the reverse is a bad sign. So, that would be one sign. You often begin to see the trading range widen out when a market, stock or index is getting ready to reverse.
Now, I wouldn’t say that’s a lock right now or that it’s absolutely going to happen, but it is something that we want to watch really closely.
Investor Place advisors John Jagerson and S. Wade Hansen are co-founders of LearningMarkets.com, as well as the co-editors of SlingShot Trader, a trading service designed to help you make options profits by trading the news. Get in on the next trade and get 1 free month today by clicking here.