• Land of the Rising Sum: Why Market Strategists Are Bullish on Japan
• Which stock market newsletters called the market bottom?
• Conversations with Casey
• Timothy Geithner: The Big Banker’s Lapdog
• Reasons to buy high yielders
• Greek Army is the Anchor Around Economy’s Neck
• The Last of the Golden Stock Market Swindlers
• A Star Trader Who Rarely Ever Traded
• S&P Rally Slowed by Fastest Cash Depletion Since 1991
• Interview with James Montier at Simolean Sense
• Small-Cap Stocks Are Running Into Resistance

The above is just a sampler, for the full course meal, follow the graphic link below to news.tradersnarrative.com:

And remember to check back every day as interesting links are added throughout the week. If you use twitter, add news.tradersnarrative.com to get new links in real time.

US Week Ahead:

Sentiment Surveys:
According to the AAII weekly survey of retail investor sentiment this week we had 45.29% bulls and 25.29% bears. The last time we saw a similar posture was in mid January 2010 (see that week’s sentiment overview for details). Although, the AAII was even more lopsided, with more than 2.14 bulls for every bear, at the start of the year.

Investors Intelligence, the weekly sentiment index of newsletter editors, showed a similar uptick in optimism with 44.9% bulls and 23.6% bears. While this is an improvement from the mid-February lows, it is still far from the previous top in sentiment in late 2009 which had more than 3 bulls for every 1 bear.

Option Sentiment
Earlier in the week we looked at the retail option traders‘ propensity to throw caution to the wind and reach for further gains. The historical pattern has been negative in the short term, not surprisingly.

With the week’s data in let’s take another look at the ISE Sentiment index:

What jumped at me immediately was how the 10 day moving average (orange line) went almost straight up this week. We had 4 days back to back where retail option traders bought more than twice as many call options as put options. So there was clearly a sudden and severe change in the way option traders positioned themselves this week compared to last week.

This was a +20% increase in the 10 day moving average for the week. Shifts of this magnitude are very rare. Since 2006, we’ve only seen 5 instances (excluding duplicate dates):

The results are mixed. In 2007 the market took a tumble right on cue. In the spring of 2008 there was a 3 day pull back but it was just a pause before the S&P 500 moved higher. The final instance in 2008 was a great sell signal as the market topped going into the new year. And finally, the March 2009 instance was obviously right smack in the middle of an intense momentum thrust that turned out to be the launch of the cyclical bull market.

The CBOE put call ratio has followed a similar path, veering sharply lower (again). Right now the 10 day moving average of the equity only put call ratio is back to the level it was in mid January 2010 and mid October 2009:

Corporate Insiders
According to InsiderScore, corporate insiders are selling once again at a torrid pace. Their buy sell ratio for the S&P is back to levels we saw in the spring of 2007.

Hedge Fund Flows
While retail investors are fleeing equity mutual funds for fixed income funds, hedge funds are continuing to enjoy inflows from accredited and institutional investors for the 11th consecutive month. According to both TrimTabs and BarclayHedge which track fund flows for hedge funds, January 2010 was an uncharacteristically strong month with $7.1 billion in inflows - usually hedge funds see redemptions at the start of the calendar year.

Mutual Fund Cash Levels
Although US equity mutual fund managers have not been given a lot of new funds to put to work, they are drawing down their cash levels to historic lows as they desperately try to keep pace with the rally.

At 3.6%, with an aggregate of $172 billion, the equity cash ratio is back to where it was just as the market peaked in 2007:

Meanwhile, bond fund managers must be feeling like Scrooge McDuck, diving into a deep pool of coins with close to 7% cash ratio:

They either are being given new funds at a pace that outstrips their ability to invest it, or they are recognizing the market cycle and trying to time their buying because they believe bonds will decline in value.

Bloomberg Professional Global Confidence
According to the survey of institutional traders and investors from Bloomberg, global confidence in the stock market dropped in March with concerns about the fallout of Greece’s budget crisis. The Bloomberg Professional Global Confidence Index fell from 54.9 to 53.8. A number above 50% indicates a bullish level - where it has been for the past 8 consecutive months.

But confidence in the US stock market specifically increased to 47.8 in March - up from 35.6 in February 2010. Similarly, global investors confidence in the US dollar continued to increase, rising to 66.4 from 55.7 in February. The survey was conducted between March 1st and 5th and covered 1,612 Bloomberg users.

On March 3, I heard John Taylor over lunch at the San Francisco Federal Reserve. In his talk he reviewed the government’s bailouts and their effects on our economy. If you aren’t familiar with Taylor, he co-authored, along with Bob Hall, the macroeconomics textbook most widely used these days. In addition, he served as undersecretary of the Treasury in the early Bush years where, among other responsibilities, he was tasked with bringing a new currency to Iraq.

But for us economics nerds, he is most famous for formulating the Taylor Rule, a guideline for where the fed funds rate should be set. While there is more to it, the general idea is to use the inflation rate and the gap in GDP growth from its potential growth rate.

To make sure that inflation doesn’t get out of control, the Fed Funds rate should be higher with higher inflation. When the economy is doing poorly, a lower fed funds rate can help the economy.

The Taylor Rule incorporates these two items into the calculation to suggest an appropriate level for the Fed to use in setting its overnight rate. The basic rule is that the appropriate rate for the Fed can be calculated as follows:

Rate = 1.5 X inflation % + 0.5 X (real GDP gap %) + 1%

In the chart just below, I calculated what the Taylor Rule indicated would be a reasonable level for the fed funds rate (in orange), overlaid with the actual fed funds rate (in red). It shows how the Fed kept rates too low in 2004, fueling the housing bubble. That was Taylor’s major point and is documented in his latest book.

A similar comment could be made about 1975-1977. The wild swing down at the end of 2008, with negative inflation and GDP growth, indicated that the economy was so bad that the rate should go below zero, an impossibility. Even so, that provides some justification for the extreme actions of the Fed in undertaking its quantitative easing.

Looking to the future, the more important concern for me is that the end of the chart seems to indicate that the appropriate rate has already moved up to 4%. That’s because the measure of inflation used here for personal consumption expenditures has turned from negative to positive.

If you think inflation will be rising and the economy will not be as bad going forward, you might expect rates to head higher soon. Of course, the Taylor Rule for rates and the actual rates don’t follow an exact track, but using data from the last quarter of 2009, we see a dramatic turnaround in the pressures on rates, based on the Taylor Rule.

Taylor was surprisingly critical of the long lists of bailout programs, citing data that they had very little positive effect on other measures of the economy. He implied we would have done better with less of these measures, including the granddaddy of the Fed’s actions, to buy $1.25 trillion mortgage-backed securities (MBS), as mortgage rates dropped only slightly. He said we shouldn’t worry about deflation, as he considers it unlikely but felt that in the future we will be worrying about inflation.

In combination, the conclusions I came away with were supportive of our position that the country’s economic problems are not over, and that inflation will be added to the list of those problems in the future.

You can follow the analysis of Bud Conrad, along with Doug Casey at The Casey Report.

As a result, so much money is flowing into upside volume on the NYSE that all short term moving averages of upside volume to total volume are reaching an extreme. Surprisingly, according to research from both SentimenTrader and Bespoke on this level of upside volume, the market does OK going forward but nothing spectacular either.

Finally, we have an update from QuantDNA which is a bit cryptic because it relies on a proprietary indicator of theirs based on exhaustion:

History has shown that highly predictive sell signals are better viewed as a process rather than an event, so we have been processing a lot of information over the past few days in that light. The market action over the past few sessions has caused many of our proprietary indicators to fire off sell signals. Our proprietary work has primarily concentrated on two general areas…market structure and momentum and exhaustion patterns.

The charts below feature one particular exhaustion pattern that has been one of our favorites due to it balance between frequency and accuracy. It is certainly not infallible but represents a solid indication of a market’s condition on a risk-adjusted basis. As always…no guarantees, only probabilities.

Make of that what you will.

The result is very impressive. In the chart below, the blue line is the equity line for the signals provided by Jay’s own version of the Coppock curve and the red line the Dow Jones Industrial index:

“Jay’s Coppock Model” has two inputs: the Coppock Guide and the Dow Jones (both levels and momentum). More specifically:

I use three measures in one to generate a green, yellow or red light, using end of month Dow readings. One measure uses just the Coppock Guide, another uses the Coppock Guide plus a moving average of monthly Dow closing prices and another uses two moving averages of Dow monthly closing prices (do I know how to have a good time or what?). Each measure is graded as a +1 or a zero at the end of each month. The three are then totaled together to arrive at “Jay’s Coppock Model.”

Measure #1: The first measure simply compares this month’s CG reading with the reading of two months ago. If this month’s reading is greater than the reading two months ago then the JCM gets one point added to it.

Measure #2: Yes this involves a little “double dipping.” For Measure #2, if the CG is above its reading of two months ago AND the Dow is above its 12-month moving average (calculated using the last twelve monthly closes for the Dow) then the JCM gets another point added to it. If the Dow is below its 12-month moving average then Measure #2 is a zero regardless of the action of the Coppock Guide itself.

Measure #3: This requires - you guessed it - a few more calculations.

• A = (Last month’s 5-month exponential moving average of Dow closes * .6666)
• B = (This month’s Dow close * .3333)
• C = (Last month’s 10-month exponential moving average of Dow closes * .82)
• D = (This month’s Dow close * .18)
• E = (A + B) or the new 5-month exponential moving average
• F = (C + D) or the new 10-month exponential moving average
• G = (E - F) or 5-month exponential MA minus 10-month exponential MA

So to put it into plain (albeit admittedly fairly unintelligible) English, Measure #3 goes like this:

• If this month’s value for G is less than zero AND this month’s value for G is below last month’s value for G, then no point is added to the JCM.
• Under any other circumstance - i.e. if the 5-month average minus the 10-month average is positive or if the 5-month average minus the 10-month average at the end of this month is greater than the value for last month (like I said, thank God for the spreadsheet), then Measure #3 adds one point to the JCM.

Based on these 3 inputs, Jay is either long/short or in short term T-Bills. Personally, I prefer the S&P 500 index but it has a much shorter history so I can understand why Jay used the Dow Jones (with a +100 year history). More importantly, Jay provides a model for how a real market master approaches an indicator like the Coppock Guide.

Most will learn about it and take it at face value - checking in once in a while to see where it is. But he uses it as an ingredient for further research. Having just attended Jake Bernstein’s DSI webinar, this is very familiar territory by the way.

You can read Jay’s complete piece here: Forecasting the Stock Market in 5 Minutes a Month

First, let’s look at the long term chart of the Biotech index (click to see full size chart in new tab):

As you can see, the 800 resistance line goes back all the way to the 2000 stock market bubble. Biotech recovered after the 2003 bottom and like most stocks bumped its head again against resistance in 2007. But unlike most stocks, this index didn’t fall as much.

While the S&P 500 index fell by 58% (from its October 2007 highs to the March 2009 lows) the AMEX Biotechnology index (BTK) not only reached a new momentary high in August 2008, when it participated grudgingly in the 2008 bear market, it only lost 37% (from its October 2007 high).

So given this relative strength and that the recent the breakout above the 800 resistance line was extremely important because of the long term nature of this level, it isn’t surprising to see the intense momentum. It is not very visible on this long term chart but since early February 2010, the Biotech index has been white hot, basically climbing straight up!

And that’s the problem. The line below the price chart is the distance of price from its 200 day simple moving average. Right now, it is about +40% above its long term trend. I’ve marked this relative level on the chart and as you can see, price expansion leads to price contraction.

This is a rare occurrence. Whenever price runs ahead of its long term trend line so fast that it doesn’t give the 200 day moving average time to catch up, prices weaken going forward. The most recent momentum thrusts occurred in mid 2009, 2003, and of course, the huge spike in the 2000 bubble which blows all the others out of the water. There were also 3 other ones before this super-spike, as marked on the chart above.

But that isn’t the only reason to be cautious at this time. If we peer into the index itself, we find very little evidence of strength in the underlying components. Here are the components of the AMEX Biotechnology index (BTK):

According to the NYSE/AMEX website:

The BTK Index was established with a benchmark value of 200.00 on October 18, 1991. The BTK Index is rebalanced quarterly based on closing prices on the third Friday in January, April, July & October to ensure that each component stock continues to represent approximately equal weight in the index.

According to Stan Weinstein, a simple method is to look for strong sectors, like Retail and Biotech right now, and to buy the strongest components within them. So following Weinstein’s sector framework, I looked at each component. But surprisingly, I found very few that were showing a similar break out to all time highs (as the Biotech index itself suggestst). For example, Sequenom (SQNM) has gapped up but it also has a lot of overhead resistance.

Of the 20 components above, I only found few that were bullish. Here are some notes:

Millipore (MIL) is acting similar to the Biotech Index (BTK) having reached a new all time high. But that was due to a buyout by Merck (MRK). So that doesn’t really count as it basically removes it from the index.

Human Genome (HGSI) is strong reaching multi-year highs but going back to 2002 and earlier finds much higher prices and overhead resistance. The same can be said for Nektar (NKTR) but we’d only have to go back to 2006.

OSI Pharma (OSIP) has gapped up based on corporate action. Again, even with this gap up, there is ample over head resistance at higher prices.

The long term chart of Alexion Pharma (ALXN) is very similar to the Biotech Index (BTK) but unlike the index, it has yet to reach a new high. Price is acting strong but it is close to long term resistance - a $55 double top in the year 2000.

Celgene (CELG) was able to surpass its 2000 high but the most recent rally has yet to push above the double top from October 2007 and August 2008 at ~$70. Similarly, Gilead (GILD) has a fantastic chart - until 2008 when it started to tread sideways.

Life Technologies (LIFE) is probably the most bullish from a long term view - it also matches the overall profile of the AMEX Biotech Index (BTK). It hasn’t participated in the rally with the same intensity but all the longs are happy.

Celera (CRA) is probably the worst looking chart. After hitting +$240 in the 2000 bubble, price has deflated and right now it is close to its all time low.

Conclusion:
So basically, we have a sector index that has come very far, very fast with almost no real technical strength from its underlying components. To be honest, I’m puzzled by this because I’ve rarely seen this situation. Usually when an index is strong, most if not all the underlying components are also strong.

My guess is that this due to the way the index is built and rebalanced. Looking at the iShares Biotech ETF (IBB) we find a very different chart which has yet to reach new highs. For these reasons, I’m wary of the mirage of strength that is projected by the AMEX Biotech index (BTK).

As I sat down to watch the Oscar pre-show on Sunday night, March 7, one word was repeatedly used to describe the celebrity starlets and their designer duds: GOLD. Gold bustiers and gold lame skirts, shiny gun-metal dresses and glittery sequined gowns all basking in the golden shadow of the final golden statue.

Everywhere you look, from the Red Carpet to Wall Street, gold is definitely in “fashion.” As for why, one word comes to mind: safe-haven. See, according to the mainstream financial experts, the more unstable the global economy, the greater the appeal for the precious metal.

And, with a staggering 17% unemployment rate in the United States, alongside slumping real estate sales, Eurozone weakness, the Greece debt debacle, and so on — the only thing going up is gold’s supposed disaster premium. Here, take these recent news items for example:

• “Bullion Sales Hit Record In Stampede To Safety.” (Financial Times)
• “Gold Ticks Higher On Safe Haven Buying. The risk trade is resuming.” (AP)
• “Gold Rose to 6 ½ Week Highs as the metal benefits from fears over financial instability in general. The market is looking for some security with gold.” (Reuters)
• “Gold Rush: This is a new round of safe haven buying.” (Bloomberg)

There’s just one problem: The correlation between a falling economy AND rising gold prices is based solely on hype, NOT history.

Download your FREE 40-Page Gold and Silver eBook. Is gold a simple buy-and-hold at today’s prices? The independent insights in this valuable ebook deliver Prechter’s complete analysis and help you decide how to – and how not to – incorporate gold and silver successfully into your own investment strategy.
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Case in point: In the March 2008 Elliott Wave Theorist (republished in his 40-page Gold and Silver eBook), Elliott Wave International President Bob Prechter presents an indisputable case AGAINST the safe-haven status of gold.

The first piece of evidence: The following table showing gold’s performance during the 11 officially recognized recessions beginning in 1945.

Prechter also plotted the Dow Jones Industrial Average into the same period and made this startling discovery: The average total return for the Dow during recessions since 1945 is 6.89%. Taking into account modern transaction costs, the Dow actually beats gold with a 6.87% return.

The most powerful myth-debunking punch of all, though, came via the second chart of gold’s performance — this time during periods of financial growth.

In Prechter’s own words:

“All huge gains in gold have come while the economy was expanding… The idea that gold reliably rises during recessions and depressions is wrong. In fact, like most such passionately accepted lore, it’s backwards.”

Now, this doesn’t mean that you shouldn’t own gold in a financial crisis. On the contrary: In chapter 22 of his Wall Street Journal business bestseller, Conquer the Crash, Prechter lists 5 reasons why “you should buy gold and silver anyway.” Gold is “real money,” after all! It’s just that, despite widespread beliefs to the contrary, you shouldn’t expect “huge gains in gold” when the economy contracts.

Download your FREE 40-Page Gold and Silver eBook. Is gold a simple buy-and-hold at today’s prices? The independent insights in this valuable ebook deliver Prechter’s complete analysis and help you decide how to – and how not to – incorporate gold and silver successfully into your own investment strategy.
Learn more, and download your Gold and Silver eBook here.

While they both measure option trading activity, there are some differences between them. For starters, the CBOE put call ratio includes large trades while the ISE Sentiment index tracks more retail option traders. Also, the CBOE is a put call ratio while the ISE is a call put ratio. So to be able to compare them better, let’s convert the CBOE put call ratio to the format of the ISE Sentiment index: 294.

So basically, for every 100 put options traded, there was between 253 and 294 call options traded. That’s a lot of greed. Granted, it was just one day. But spikes of such intense emotion deserve our attention. Not only was the spike enough to help the short term moving averages shift dramatically, there is evidence that similar daily spikes presage short term weakness in the market.

I decided to look at all the history of the ISE Sentiment index (equity only) call put ratio and see what has happened in the S&P 500 after a spike of 250 or more, like we saw yesterday. Here are the results:

Including yesterday’s there have been 24 instances (the ISE data goes back to January 2006). Most of them tend to cluster around early 2006, mid-2007 and the fall of 2007. In the short term, the average return for the following 21 trading days (1 month) was -1.08%. Out of the 23 occurrences, 14 were negative and 9 positive.

For all 4 time intervals the returns were negative. But keep in mind that this was a period with a very deep bear market. As well, notice that when we move to the longer end, the 12 month return is negative on average but there is an almost even split between positive and negative returns. That tells me that the result is much less robust.

Needless to say, I’m very cautious going into the rest of the trading week. I think the market has zoomed back to the January highs but at the cost of a very bullish option sentiment. If you’re a contrarian, you just can’t ignore something like this.

I’ll have more about this on Friday, during our usual overview of weekly sentiment data.

The US and world economies are transitioning from the initial recovery phase (which usually lasts a few months) to the early upswing phase. Typically, this latter phase persists for at least a year and often several years if the output gap closes slowly. The textbooks tell us the early upswing phase is characterized by rising short term interest rates, stable long term interest rates and an upward trending stock market. In general, consumer confidence rises and unemployment starts to fall.

The two key questions are: is the recovery self-sustaining and, how long until inflation is a problem. Ideally, we want the recovery to walk the line of being strong enough to avoid a double dip recession (the frying pan), but not too strong, which has the nasty habit of resulting in inflation (the fire). In order to monitor this we need to look at indicators that give us timely insight into whether or not either of these pernicious scenarios is taking shape.

Accordingly, I’ve have compiled the following 11 economic and financial indicators to help provide this insight. Eight of the eleven indicators are positive, two are negative and one is neutral. Taken as a whole, we believe these indicators currently paint a picture of a sustainable recovery in the economy, which implies a continued upward trending stock market.

Consumer Confidence – Neutral (turning positive):

This indicator is important because it is correlated with consumer spending, which is a critical component to an economic recovery. Consumer confidence has improved, but only marginally from the extremely low reading of 55, seen at the end of 2008. A reading over 80 would turn this indicator to positive.

Personal income less transfer payments - Positive:

This is the value of income received from all sources stated in inflation-adjusted dollars to measure the real salaries and other earnings of all persons. It excludes government transfers, such as Social Security. Income levels are important because they help determine both aggregate spending and the general health of the economy. This indicator is currently positive because posted a gain for four months in a row.

Employees on Non-Agricultural Payrolls – Negative (turning neutral)

This series from the Bureau of Labor Statistics (BLS) reflects actual net hiring and firing of all but agricultural establishments and the smallest businesses in the nation. It is one of the most closely watched series for gauging the health of the economy.

The rate of decent has slowed and another month of moving sideways (as opposed to down) turns it neutral. However, in order to turn positive we are waiting for two months of payroll growth.

Temporary Hiring – Positive

Temporary Hiring tends to precede growth in Payrolls and, consequently, improved employment. This has turned up sharply and that is positive.

Industrial Production - Positive

Although the industrial sectors (manufacturing, mining & utilities) contribute only a small portion of GDP, they are highly sensitive to interest rates and consumer demand. Thus, it is a good measure of the economy. This indicator has moved up strongly and that has positive implications for the sustainability of the recovery.

Manufacturing & Trade Sales - Positive

This data is released by the US Census Bureau and is intended to provide timely measures of changes in domestic retail trade, wholesale trade and manufacturer’s activities. The rapid improvement in this indicator is positive and augurs well for domestic economic activity.

Commercial and Industrial Loans - Negative

This series measures the volume of business loans held by banks and commercial paper issued by non-financial companies. This is a lagging indicator because it tends to peak after an expansion peaks as declining profits increase the demand for loans. On the flip side, troughs are typically seen more than a year after a recession ends. Despite this being a lagging indicator, we are at a stage in the cycle where a turn in this indicator would be an important indication that the recovery is becoming broad based and sustainable. If the rate of change on this indicator moves above 0, that would turn this neutral.

Long Term Inflation Expectations – Positive

There is a lot of concern right now about runaway inflation or devastating deflation. We don’t want either of these extremes as they both have negative effects on asset prices (particularly equities). Thus, in an ideal world we walk the line between solid real economic growth and low, stable price increases. Right now long term inflation expectations are in the sweet spot and this is positive for the stock market.

30 Year Mortgage Rates - Positive

This is Freddie Mac’s national average on a 30 year fixed rate with 20% down. Low mortgage rates have numerous positive implications for the refinance market and for purchases. Additionally, low mortgage rates have important implications for the cost of other consumer loans. It is true that Mortgage purchases by the Federal Reserve are holding these rates artificially low and it doesn’t tell the whole story because many banks have tightened lending standards, thus, making this low rate more difficult to obtain. Nonetheless, rates this low are on-balance positive.

S&P 500 Index – Positive

The direction and strength of the stock market is important as a leading economic indicator and because it has critical implications for the level of wealth. As the stock market rises from its March, 2009 bottom investment accounts are reflated, 401(k)’s are restored, and confidence slowly seeps back into the populace. All of these factors are important for consumer spending and the level of economic activity. Despite the relatively minor correction since mid-January the stock market is still positive. If it breaks down to make fresh lows, then that would flip this at least to neutral and perhaps negative.

South Korea stock market (KOSPI Index) – Positive

One of the best “canaries in the coal mine” is South Korea, because this economy is exposed to consumer demand in the US and infrastructure spending in China. This economy is on the pointy end of the economic cycle and, similar to our S&P 500, it is still holding up relatively well, which is positive.

There are a few ways that the Summation Index is used as a guide. When it is rising, it indicates that money is flowing into the stock market. When it is falling, that money is leaving the stock market. You can think of it as a supply/demand indicator, similar to the proprietary Lowry Buying Power and Selling Pressure indicators.

As well, when it falls to approximately -1000 it indicates a washout of selling and an inflection point in the market. The last bear market was so ferocious that the NASDAQ Summation Index fell to -1725. I prefer to use the NASDAQ (instead of the NYSE) Summation Index because on the big board the advance decline numbers have gotten too polluted with non-operating company components.

This indicator is also used to find divergences between breadth and price. So for example, if breadth is falling - as shown by a lower high on the Summation Index - as the S&P 500 index or the NASDAQ Composite goes higher, this divergence is a flashing red signal that the market is on thin ice.

Not surprisingly, the past few months show exactly this type of divergence: the NASDAQ Summation index has not been able to put in a “confirming” higher high and higher low concomitant with the higher price in the S&P 500 index and the NASDAQ composite.

While I’m sure a lot of people looking at this will get bearish and call into question the longevity of the current cyclical bull market, when I looked at the past 10 years I couldn’t really find evidence that such a divergence is really anything to worry about.

To show you what I mean, take a look at the corresponding charts for the NASDAQ Composite, the NASDAQ Summation Index and the S&P 500 Index (click to see larger chart in new tab):

If we cherry pick bits and pieces of the chart, for example the year 2007, we can definitely argue that a divergence of this kind leads to lower stock prices. But when we look at the wider picture, they don’t really mean much. For example, in 2005 and into 2006 breadth (as measured by this indicator) was rather weak. But that didn’t stop the bull market.

Neither did the strong breadth back in early 2002 provide the bulls with enough reasons to actually end the bear market. Personally, I’m just going back to using this as a market timing indicator the way that I described above and leave this divergence analysis to others.