Use PowerRatings to Gauge Market Direction

At the time of writing this, the DOW is sitting at new all-time highs and the S&P is at new 6 year highs.  Everything appears to be great and investors are coming off the sidelines to chase the momentum.  This is usually the time when large funds and professionals start to liquidate positions into the strength and let the retail investor become the bagholder. 

While the market never clearly telegraphs its next move,  it does offer some very subtle hints as to how it may move in the short term. When these hints are given, we must be able to identify them, and then take the proper actions. 

One subtle clue that we look for is contained in TradingMarkets PowerRatings lists. Each day at 6:00 PM EST we publish a list of stocks with PowerRatings of 9's and 10's, and a list of 1's and 2's. As you become familiar with the list you'll notice that these lists expand and contract as the market moves up and down. If you are unfamiliar with PowerRatings, or how to use them, please refer to my previous article.

As the market moves higher and higher, the list of 9's and 10's becomes smaller and smaller. Meanwhile the list of 1's and 2's grows larger. Conversely, when the market declines, the list of 1's and 2's gets smaller and the list of 9's and 10's grows larger.

Why does this happen? It happens because you are statistically more likely to be successful by buying into short-term weakness and selling into short-term strength. All of our research indicates this, and it is one of our 10 Rules For Successful Investing.

Bearing all of this in mind, let's take a look at today's PowerRatings lists.

On Thursday November 16th the list of 9's and 10's is down to only 3 selections. This is one of those subtle clues I was talking about earlier. It's telling you that there are very few good buying opportunities in the market. And, if there are very few good buying opportunities, then it's unlikely the market is going to move higher.

Here's a partial screenshot of all the 1's:

Today there are 39 - 1's and 147 - 2's! This list tells you that there are lots of good selling opportunities in the market, or, if you don't like to take short positions, it's telling you there are lots of stocks to avoid. Either way, that's a pretty bearish sign and no longer a subtle clue, but a pretty good indication that in the short term the market is unlikely to move higher.

But don't just take my word for it. Steven Gabriel, MD. discovered this himself and discussed it in January 12 blog "What the Power Ratings are Telling me about the Markets!" The market began its correction that day.

While this isn't a long-term indicator, PowerRatings can help you determine short-term market direction. I hope this article teaches you another useful way of using PowerRatings.

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Darren Wong
Associate Editor
darrenw@tradingmarkets.com

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Reminder: We are in no way recommending the purchase or short sale of these stocks. This article is intended for education purposes only. Trading should be based on your own understanding of market conditions, price patterns and risk; our information is designed to contribute to your understanding.