When the Dow Jones Outperforms the S&P 500: Warning Signal?

Recently, the Dow Jones has been outperforming the S&P 500. The study will demonstrate that the greater the outperformance of the Dow Jones vs. the S&P 500, the worse the intermediate term results for both indices.

The performance of the Dow Jones and S&P 500 has diverged. The Dow is making new highs while the S&P is struggling to surpass the highs made in October, November, and December 2o11.

I somewhat randomly chose the 30 day rate of change (ROC30) of the Dow Jones (DIA) and S&P 500 (SPY) to measure the difference in performance of the two indices. When looking at their charts, both indices appeared to have bottomed about 60 days ago. I just split the number in half. Unscientific? Maybe. I will take a look at the 60 day rate of change as well, but not in this post.

What does the outperformance by the Dow Jones mean over the intermediate term, if anything?

The Rules

Buy SPY or DIA at the close if

• The difference between the DIA ROC30 and the SPY ROC30 is greater than X.
• Sell at the close Y days later.
• No commissions or slippage included.
• All SPY and DIA history used.

The Results:

I know the graph is busy. Bear with me. We’ll start from top to bottom of the legend on the right side of the graph.

The white and pink lines show a small divergence between DIA and SPY where the difference between the two is more than 0.5%. Note that the average performance of both ETFs track each other fairly well and make several forays into positive territory.

Next are the blue and red lines. With the difference greater than 1%, we began to see the DIA (red line) outperforming SPY (blue line). This is not really ground-breaking. I think it just shows that the Dow’s momentum persists over the time period. Both ETFs finish in positive territory after 50 days.

As we examine the green and purple lines where the DIA’s ROC30 is 1.5% or more greater than SPY’s, performance begins to head into negative territory around the 17th day. While DIA still outperforms SPY, neither ETF manages to get back to positive territory.

Finally, the brown and orange lines show that as the DIA outperformance grows to 2% or more, performance over the next 50 days worsens.

What Does It All Mean?

I’m not sure. I’m not sure why performance for the differences of greater than 1.5% begins to drop around the 17th day. Perhaps when capital moves to the Dow it is a flight to safety, and after a month or so, whatever was perceived as risk has abated.

There were plenty of samples. Even the most restrictive requirement of > 2% still had 30 samples at 50 days out. When the divergence begins around the 17th day, there were 68 samples averaged to show the > 1.5% result.

The issue I can’t ignore is that it is pretty difficult to produce an average return for these ETFs that doesn’t finish in positive territory after 50 days. Markets have a tendency to go up, and most returns over 50 day periods will reflect this. I have looked at dozens of setups (if not a hundreds or more), and even when I was sure they were bearish over an intermediate term, most of the time the results showed they were in fact neutral to bullish. Therefore it is significant to me that the >1.5 and >2 setups both produce a negative return after 50 days.

Limitations

This is a very simple study. Perhaps I’ve lucked into something using ROC30. In a future study I will lengthen the ROC and see what happens. Also, I would like to require successive days where the difference is greater than X to see how that changes the results.

I welcome any thoughts and observations.

 

Comments »

 

To all my relations at iBC — Happy New Year!

To your wealth, health, and family, cheers!

Comments »

Per a reader request, below is the chart from the previous Santa Rally post, but it has been updated to include the rest of December 2011 SPY history.

Compared to the SPY December average, this year’s Santa Rally developed a day earlier but peaked at the same day (day 18) as usual. For future reference, day 18 is the first day the market opens after Christmas.

The Santa Rally is truly a wonderful gift of seasonality. This year’s rally added better than 4% to the SPY, putting it near breakeven for the year.

Comments »

Via ETF Prophet, here is an interesting post that I’ve been meaning to put up here for a couple of weeks. I find it very interesting and think it is something that readers here will appreciate.

——————————————————————————————————————————–

Trapped in No Man’s Land

Posted by Mrkt_Rwnd
December 14th, 2011

“Trapped Between the Living and the Dead Again,” the film poster tagline reads.

By one measure, the retrace from 252-day highs, this bear market  has been mild in nature, politely reversing on a dime October 4 at the official -20% mark, currently registering a mild -7% (12/13/11).

For all the dramatic daily swings, even the VIX has remained within typical “event-type” range readings sub-fifty with today’s indication just a meek 25.  However, I have begun to wonder about the third dimension, namely time.

To measure time in a bear market, I used the 200-day moving average of the S&P 500/ SPY back through 1994 as a benchmark in two simple ways to reduce noise.

The first was to measure the duration of instances where the 10-day moving average was below the 200-day moving average.  The second was to measure the duration of instances where the 5-day simple moving average of the 200-day average was below its 10-day counterpart (i.e. the 200-day moving average was falling).

A histogram of the two approaches is provided below:

Be sure to click on over to Trapped in No Man’s Land to read the rest of the analysis.

Happy New Year to all the excellent guys over at ETF Prophet!

Comments »

1. Obama will be re-elected.

2. Attorney General Eric Holder will resign.

3. The Supreme Court will overturn the individual mandate of ObamaCare.

4. The October 2011 lows will be re-tested.

5. The Euro-Zone crisis will result in the EU treaty being amended to allow printing of Euros. EU banks will be recapitalized with some countries requiring significant haircuts for the bondholders. In the end, most EU countries will see a loss of sovereignty in order gain the support of Germany.

6. The U.S. will fall into recession due to the Euro-Zone crisis.

7. The S&P500 will close down for the year.

8. GLD will see $200/share.

9. Scottrade will begin accepting the EBT/Swipe card as payment to fund new accounts. Obama and Bernanke will be piloting the Scottrade helicopter in future advertisements.

10. $VIX will close above 40.00

11. The Indomitable Dominion of iBC will see over 25 million visitors.

Comments »

I hope everyone had a wonderful Christmas. As a gift of sorts to celebrate this season, let me offer to you my Stock of the Year for 2012.

This one was recently new to my radar, but the more I read about it, the more I liked it. I’ve been nibbling a little bit and have opened a small position. It is small enough that it will not hurt if the stock retraces 30% or more (as these tend to do). I plan to buy a little on the dips, patiently.

The important caveat is that I’m not typically investing/trading based on fundamentals as fundamental analysis is not my forte. I can tell you the company has a lot of debt, but that is normal for a biotech. This pick is a combination of my belief that the technology could literally change the world and an understanding of what happens when stocks exhibit a technical pattern that this one is exhibiting. In other words, it is a combination of hope and technicals and a little bit of intuition.

Why hope? Should the company actually be able to develop the product, they plan to be able to test for various cancers using a simple anti-body based blood test. The test could be administered during routine visits to the doctor’s office. Not only would the technology be life saving, but think about the number of tests that would be administered. The oncology diagnostic market is estimated to reach $8 billion by 2014.

Techinically speaking, the stock has surged off of new lows on huge volume, gaining almost 60% over the past 7 days. These types of surges usually result in big pullbacks of 30% or more following the surge, but some of these types of moves lead to the stock making substantial gains over the next 252 days. The surge is a sign that something has changed. The key is to understand that volatility will remain elevated and to not take on a big position right away.

The company is Bio Time, Inc.

I welcome hearing your thoughts about this company. Since I’m not skilled at digging through financial statements and 10Qs, perhaps I’ve missed some red flags. At iBC, we’ve never been shy about classifying biotechs as hand grenades just waiting to blow off your arm, or more. No risk, no reward. With biotechs, the rewards can be huge, and that is why this is my stock of the year for 2012.

Comments »

To all my friends and iBC family, Woodshedder and family wish you all a very merry Christmas! May you all wake up tomorrow and celebrate your family, health, wealth, and all the good things that go with them!

Comments »