There is a Pretty Good Chance the Correction is Over

The S&P peaked in early September, but most other major averages and many internal indicators of breadth have been rangebound since March. Price action this week, though, suggests that there is a good chance this corrective process has run its course and we will see significant new highs well before the end of the year. Chart 1 shows that the NYSE A/D Line in the bottom window, has been consolidating since June and is now back to its high. The common stock variety is also close , but the S&P is still a bit short of registering a new high. However, it has managed to break above its correction down trendline.

Chart 2 indicates that the short-term KST for the NYSE has only just started to turn up. Given the close proximity of the Index to its previous high, it's a small stretch to anticipate that the KST rally will not result in a breakout.

Breadth Indicators are Turning

My Dow Diffusion indicator is featured in Chart 3. This series monitors the percentage of Dow components that are in a positive trend. It triggers buy signals when it falls below the green horizontal line and then reverses to the upside. The green arrows show that these signals have fairly consistently been followed by a worthwhile rally. Only the November 2018 signal can be said to be a failure; it has been flagged by the red dashed arrow.

The number of NYSE stocks above a 50-day MA has been correcting for quite a while, indicating that more and more stocks have been losing upward momentum. That could well be changing, as this series appears to have successfully tested its summer low. Indeed, its October bottom was above that set in July, whereas the NYSE was recently lower than July's low. The two sets of green dashed arrows point up similar such positive divergences that have taken place in the last two years. Both were followed by very strong rallies.

The McClellan Volume Summation (Chart 5) triggers positive signals by experiencing an upside reversal from at or below its green oversold zone. Examples are indicated by the vertical lines. Rallies have pretty consistently followed such events. The summer of 2021 saw a couple of false reversals from the green line. However, the indicator now appears to be experiencing a breakout from a small base that has formed in the oversold zone. The implication is that a more durable advance lies down the road.

Finally, in the breadth department, we see the 10- and 30-day MAs of the percentage of NYSE stocks above their 200-day MA (Chart 6). It's been deteriorating since the start of the year but is now very close to its 30-day MA. The raw data (not shown) has already crossed the 30-day MA and the latest plot does not include Friday's moderately strong rally. Those two factors suggest that a bullish crossover is very likely to take place. Remember, going forwards, you can update any of these charts by simply clicking on them.

Sentiment

Chart 7 features the CBOE Options Total Put/Call Ratio, calculated in momentum format by applying  a daily KST to the raw data. Reliable buy signals are triggered when investor pessimism is greatest and subsequently reverses towards optimism. In that respect, the solid arrows indicate reversals from at or above the green-dashed horizontal line. The dashed ones flag similar reversals but from the blue line. You would expect that those signals developing from a high level would be followed by stronger advances. However, apart from the December 2018 and March 2020 signals, no consistent pattern is apparent. It looks very much as if the indicator has once again reversed from the blue zone, which suggests that stocks will rally into the year-end period.

Finally, Chart 8 plots a credit spread relationship between the iBoxx High Yield Bond and the iShares 7-10-year Treasury Bond ETF (HYG/IEF). It reflects swings in confidence as bond investors switch between the higher riskier junk and the relative safety of treasuries. It's by no means a tick-by-tick relationship with the stock market; indeed, there are often long periods of divergence between the two. However, breakouts in the ratio above or below trendlines and or reliable moving averages occasionally provide important stock market signals. Right now, it looks as if the ratio is about to break above a 3-year down trendline. If so, that would imply a strong forthcoming trend of improving investor confidence and a stronger stock market. Note that the short- and long-term KSTs are in a positive mode and their intermediate counterpart has gone flat. It's important to remember that the trendline break is tentative at this stage, but, given the other reliable short-term indicators cited earlier and the rising short-term KST for the ratio, I think there is an excellent chance that we will see a stronger breakout above that resistance trendline in the period directly ahead.

Conclusion

The major averages and A/D Lines are at resistance and may need to digest recent gains in the next few sessions. However, there are enough positive short-term internal indicators to suggest that the market has a sporting chance  of breaking out in the not too-distant future, just in time for the bullish November/April seasonal.

Good luck and good charting,

Martin J. Pring

The views expressed in this article are those of the author and do not necessarily reflect the position or opinion of Pring Turner Capital Groupof Walnut Creek or its affiliates.