This Indicator Says It’s Still Time to Buy Stocks

Downturns can lead to break-out growth periods.

Green Button says Buy Stock

Reminiscences of a Stock Operator, a not-so-fictional biography of Jesse Livermore that was written by Edwin Lefevre back in the 1920s, remains one of the my favorite books of all time—it’s conversational, with as many investing lessons as any book out there. If you haven’t read it, I highly recommend it, especially if you’re just starting out.

That said, Reminiscences isn’t a how-to book; you won’t find chart explanations or screening techniques. Later in his life, Livermore did, however, publish his own brief book in that genre, dubbed simply How to Trade in Stocks. It’s also a solid read, for what it’s worth.

Besides giving you a couple of titles for your summer reading list, the reason I bring those up today is because of one thing that Livermore talked about in his second book that is so applicable to today—the time element of trading. In the book, he mostly wrote about how things take time to play out, especially things setting up for a big move.

But I want to touch on another aspect of the time element of investing: That similar occurrences can have vastly different meanings depending on where and when they happen.

Right now, for instance, I’m reading a lot about the “crazy overbought” market. Not only have the indexes made big moves of late, but many internal measurements are at nosebleed levels.

Such straight-up action does likely mean that some profit taking will occur in the near-term. But bigger picture, does such wild upside action portend bullish or bearish things? The answer depends on where the market is in its overall run.

For instance, take a look at early 2018—in January of that year, the market went bananas, with the indexes rising ever-higher on a bunch of good news (corporate tax cuts) while the internals of the market, while not as strong as today, looked great. But, of course, that move came 15 months after the market really got going in November 2016. The result: A very sharp correction and, a year later, the market was lower than it was then.

The Blastoff Indicator
Today, however, the market is obviously in a different stance—it’s a few months off a historic crash that, at its lows, saw the S&P dip 35% to three-and-a-half year lows. Again, that doesn’t mean the near-term won’t see some wobbles, but the strength is more likely a bullish factor for the intermediate- to long-term.

And that’s not a total guess on my part. It turns out that, after a huge selloff, the first time that 90% of NYSE stocks rise above their 50-day lines is a rare “blastoff” indicator. It’s only happened 12 other times since 1970, and what followed was almost always bullish—the average max gain in the S&P 500 during the next year was 19.4%, and the average maximum loss from the signal during the next year was less than 2%!

Of course, the 90% Blastoff Indicator is just one measure, and nothing is guaranteed in the market. But the point is that, historically, very strong breadth relatively soon after a big downmove (like the one in February-March) is usually a good thing, not a bad thing.

It’s a similar story when examining individual stocks. Take earnings gaps—big gaps higher tend to be bullish for a stock looking out a few months, while earnings disasters often mean a stock is broken. But again, a lot has to do with where a stock is in its overall run.

The good news today is that many growth stocks have come out of “early-stage” consolidations, so a lot of the strength we’ve seen since mid-April is likely more blastoff than top-ish.

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