Study: breadth suggests that this correction won't turn into a significant correction


The Advance-Decline Cumulative Line is a good breadth indicator for the U.S. stock market. The S&P 500 is still rather far below its all time high, but the A/D Line is close to making a new high.

This suggests that the S&P will not fall and turn the current “small correction” into a “significant correction”. The Medium-Long Term Model agrees.
Historically, “significant corrections” did not see the A/D Line come close to making new all-time highs before falling and helping the S&P make a new low.
When…

  1. The S&P 500 fell more than 10% (first leg of a “significant correction”), and…
  2. The S&P and A/D Line bounced, and…
  3. The A/D came close to making a new all-time high…
  4. The S&P’s bottom was definitely already in.

Here are the S&P 500’s historical “significant corrections” since 1960.

  1. 2015-2016
  2. 2011
  3. 2010
  4. 1998
  5. 1990
  6. 1987
  7. 1983-1984
  8. 1980-1982
  9. 1980
  10. 1976-1978
  11. 1971
  12. 1966
  13. 1961-1962

Here are the historical cases in detail.

2015-2016

The S&P 500 made a significant correction from 2015-2016. When the A/D Line came close to making a new high, the S&P’s correction bottom was already in.

2011

The S&P 500 made a significant correction in 2011. When the A/D Line came close to making a new high, the S&P’s correction bottom was already in.

2010

The S&P 500 made a significant correction in 2010. When the A/D Line came close to making a new high, the S&P’s correction bottom was already in.

1998

The S&P 500 made a significant correction in 1998. The A/D Line never even came close to making new all-time highs even though the S&P made new all-time highs. This case doesn’t apply to today because the A/D Line is close to making new all-time highs.

1990

The S&P 500 made a significant correction in 1990. The A/D Line never even came close to making new all-time highs even though the S&P made new all-time highs. This case doesn’t apply to today because the A/D Line is close to making new all-time highs.

1987

The S&P 500 made a significant correction in 1987. When the A/D Line came close to making a new high, the S&P’s correction bottom was already in.

1983-1984

The S&P 500 made a significant correction from 1983-1984. When the A/D Line came close to making a new high, the S&P’s correction bottom was already in.

1980-1982

The S&P 500 made a significant correction from 1980-1982. When the A/D Line came close to making a new high, the S&P’s correction bottom was already in.

1980

The S&P 500 made a significant correction in 1980. When the A/D Line came close to making a new high, the S&P’s correction bottom was already in.

1976-1978

The S&P 500 made a significant correction from 1976-1978. When the A/D Line came close to making a new high, the S&P’s correction bottom was already in.

1971

The S&P 500 made a significant correction in 1971. The A/D Line never even came close to making new all-time highs even though the S&P made new all-time highs. This case doesn’t apply to today because the A/D Line is close to making new all-time highs.

1966

The S&P 500 made a significant correction in 1966. The A/D Line never even came close to making new all-time highs even though the S&P made new all-time highs. This case doesn’t apply to today because the A/D Line is close to making new all-time highs.

1961-1962

The S&P 500 made a significant correction from 1961-1962. When the A/D Line came close to making a new high, the S&P’s correction bottom was already in.

Conclusion

This study suggests that the S&P 500’s medium term downside risk is limited. This “small correction” will not turn into a “significant correction”. Fears of weak market breadth are unfounded.00

4 comments add yours

  1. Troy, according to your studies, models and writings, there is very limited substantial downside risk for the next 1 to 2 years. As a result, I was surprised to see that your reduced exposure from UPRO by switching more recently to SSO. If you believe downside risk is limited and that the s&p500 will finish the year at or above all time highs, it seems counter intuitive that you would reduce exposure. You did however, express modest concern regarding UPRO erosion. I suspect that risk of an extended choppy to down period and subsequent UPRO price erosion may have been your motivation, but I’d appreciate your elaborating, if possible. Thanks!

    • It’s a couple of things combined:
      1. As I am now in semi-retirement mode, I don’t want to subject my portfolio to that level of volatility. 3x is a little bit too much, 2x is much easier to stomach. Helps me sleep more easily at night.
      2. Erosion is a modest problem. This problem can be compounded if the S&P swings sideways for a few months.
      3. In the small probability that I am wrong, I can cut my position at a smaller loss with SSO than UPRO.

      • Thank you for your time and explanation. I greatly appreciate the information you are willing to share.

  2. In my study of the stock market, I’ve concluded that market breadth indicators (and not just the advance/decline line) are one of the most important stock market indicators.

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