Jun 24 2009
Divergences Gave An Early Warning in Stocks
I may be a professional forex analyst, but I watching pretty much all the major markets. That includes stocks. One of the things I’ve watched closely is how the S&P 500 has done during the rally from the March lows. Most especially, I’ve paid close attention to the divergence that’s developed in recent weeks between the price action and what’s been happening with volume and the market internals.
The chart below shows the SPY with subcharts that include volume, short interest, and an advanced/decline line. Notice how while the market has risen in price, volume has been easing back and the A/D line has been falling away.
I like looking for these sorts of divergences to let me know when trends are likely starting to weaken. If the market is rallying, but volume is fading and fewer stocks are participating then there’s trouble abrewin’. In this case the rising short-interest is interesting, but it’s not near peak levels, so not a huge help.
Of course divergences can persist, sometimes for a long period, so they aren’t something you can trade in the immediate term. They are good, though, for helping you frame the larger picture and understand when the risks for a reversal are starting to outweight the potential rewards of continuation.
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