Two weeks ago, I said it was time for traders to sell.
The McClellan Oscillator, a momentum indicator that helps point out overbought and oversold conditions, had reached a level that had often preceded sharp declines in the past.
So it seemed like a good time to cash in on the recent rally and place a small bet on the downside.
Stocks sold off immediately… And nimble short-sellers could have earned a fast profit…
Stocks started rallying again last week, though. And now, the S&P 500 is trading even higher than when the Oscillator first flashed “sell.” The McClellan Oscillator is higher, too. So the warning signs are out again, and we have a rare “double sell” signal. Take a look…
A double sell signal occurs when the Oscillator rallies above 80, sells off some, and rallies back above 80 without first reaching oversold levels. The blue circles on the chart show when this has happened over the past year.
Each double sell signal was followed by a sharp decline in stock prices. The S&P 500 fell 17% after the double sell signal last July. It fell 9% following the signal in October.
Another interesting development is the Oscillator closed above its upper Bollinger Band on Tuesday. Bollinger Bands measure overbought and oversold conditions by illustrating the most probable trading range for a stock or an indicator. A move outside of the bands indicates an extreme move – one that is likely to correct the other way.
So we now have a unique situation where the McClellan Oscillator has made such an extreme move that it is trading outside the range of another measure of extreme conditions.
This happened most recently last July. So once again, we’re seeing a lot of similarities between how stocks are trading this year compared to 2011. If this continues, the next few weeks could get ugly.
Best regards and good trading,
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