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Extreme TRIN - Warning Signal Or Just Shifting Signpost? at Trader’s Narrative





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A few readers have contacted me asking about the extreme spike in TRIN or Arms Index. Bespoke featured this chart of the 10 day moving average of TRIN with the implication that it was an early warning for the impending bear market that started in late 2007:

TRIN from Bespoke Jun 2010
Source: TRIN Index Shows Extreme Selling

Bespoke doesn’t come out and say that explicitly but it isn’t too difficult to imagine most people interpreting the chart that way. To play Devil’s advocate, let’s take another look at this from a few different perspectives.

First, let’s expand our time horizon to more than just 8 years. Here’s a chart of the NYSE TRIN (10 day moving average) from 1992:

Click to see larger version of chart in a new tab:
NYSE TRIN long term chart Jun 2010

Pretend that you’re trading in 1998 when the short term smoothing average of the TRIN spiked to a record high (above 1.4). What would you have thought? I’m sure many were rending their garments and pulling their hair out.

What if we pretend it is 2003? It was over 1.8 by then! Oh, the humanity!

I think my point is clear. It is obvious that when we look at the long term history of this indicator, we have to treat spikes with great caution because they may simply be resetting the definition of “extreme”. In other words, it isn’t so much an early warning signal as a shifting signpost.

In case you haven’t noticed, this isn’t your grandfather’s stock market. Volatility is consistently high and volume is acting very weird. Maybe it is the fact that retail traders have taken their marbles and gone home. Maybe it is the fact that high frequency algorithms vie with each other in picoseconds and produce a mirage of liquidity. Maybe it is something else. By nature, the market is an ever evolving thing.

Another way to get some perspective on this issue is to switch markets and look at the Nasdaq TRIN instead of the usual NYSE variant. If you’ve read the blog for some time, you will already be familiar with my criticism of NYSE breadth data. The Nasdaq isn’t polluted with non-operating company stocks so that itself is one advantage.

Click to see larger version of chart in a new tab:
Nasdaq TRIN long term chart Jun 2010

Looking at the long term chart of the Nasdaq TRIN we see that it looks very different from the NYSE TRIN. For one, there was no corresponding spike in early 2007 to act as any sort of “signal”. Second, it seems to be a more stable with more constant highs and lows.

Null Hypothesis
If you recall your high school chemistry, it is important to have a null hypothesis. As humans we have a natural tendency to seek out information that will confirm our established conclusions and our built-in bias. But the scientific process demands that we seek out information that could negate our hypothesis.

Bespoke’s blog post didn’t get any comments but the same article republished on seekingalpha did. As a reader recently noticed, public comments left on this blog and the like are a good source of anecdotal evidence. While qualitative, they proved to be a helpful guide during the last bear market. Whenever I wrote anything positive (and I did more than a few times) readers would react with a mixture of derision, hostility and skepticism. I’ll leave you to decide where things stand these days.

Dick’s Take
If you really don’t feel like thinking for yourself on this, you could do worse that defer to the man who created the index, Dick Arms and his take on the recent extreme TRIN spike.

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12 Responses to “Extreme TRIN - Warning Signal Or Just Shifting Signpost?”  

  1. 1 John F

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    Those people in 1998 were right, but forgot one important fact: Don’t fight the fed.

    Right now, the Fed doesn’t have any bullets left in it’s guns. It’s cutting back on programs and hoping the market can fly solo. The Federal gov’t is also cutting back.

    The signal is probably valid.

  2. 2 CT

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    Excellent analysis. And actually, in the past I’ve commented at BIG that their posts seemed to be more of a dump of raw data rather than an analysis of what it means. Those comments were removed. Three times in one weekend.
    So…. thanks for taking the time to dissect what it all means here and allow for the give and take with your readers.
    C

  3. 3 D-man

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    Babak,

    “By nature, the market is an ever evolving thing.”

    Why weighing so much the past behaviour of the market than? Every time markets spike up or down, we look at past data (or similar conditions) to see what happened. If it’s ever evolving, none of the previous patterns should help, right? I read here and there something like “the more things change, the more they stay the same”. Now which is it?!

    Thanks

  4. 4 Tony

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    define “extreme”…. hehe
    what we felt it’s extreme is not anymore..

    BTW, what the hell happened today? short squeez? they got me

  5. 5 Oexrex

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    D-man

    Human nature has not changed since we started walking upright thus how we behave/react to fear and greed remains unchanged

  6. 6 Babak

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    D-man, the question is which past behavior. You can look back to last year or the last 100 years. There are two truths and I realize they may be difficult to reconcile. On the one hand fundamentally, the market is always the market; the meeting of demand and supply with a sprinkle of ‘animal spirits’. But over time, there is another layer which does change some aspects of the way the market works. For example, some structural changes we’ve seen are: decimalization, HFT, allowing or forbidding short selling, etc. If things were constantly the same, it would be a breeze to figure it all out by just looking back on what has worked in the past.

  7. 7 bluebare

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    “In case you haven’t noticed, this isn’t your grandfather’s stock market. Volatility is consistently high and volume is acting very weird. Maybe it is the fact that retail traders have taken their marbles and gone home. Maybe it is the fact that high frequency algorithms vie with each other in picoseconds and produce a mirage of liquidity. Maybe it is something else.”

    Or all of the above combined with inexplicable flash crashes, sovereign default surprises, credit spreads, extreme TRIN’s, “out of ammo” deflatrionist theses and much more, of course, i.e. it’s a complicated market that fairly well approximates our collective perceptions about future economic growth. Unfortunately, the new normal is full of lethal mines and everybody knows it. Volume weirdness and hairtrigger volatility is perfectly understandable if this simple truth explains the market’s jumpy behavior. The rest is permutations that come and go based on greed, financial time horizon, and risk aversion or tolerance, which is much greater, of course, if you have enough marbles to move the market in the direction you want.

    Personally, my marbles are ALL home at the moment. I’m waiting for economic fundamentals and human emotions to regain some control of the market AFTER the Fed, government, PPT, big trading houses and overeager computers hve expended their entire capital base on this fight. While it doesn’t make me happy to conclude that I think they’re losing and will lose, that’s my conclusion. My investment strategy flows from that conclusion. So, when they’re done, I expect to take those on the other side of this argument to the cleaners. If I’m wrong, then the stock market will continue it’s upward trajectory and I’ll be happily and gladly wrong, not sadly right, and cheer and profit from their success as well. In the meantime, this is very NOT our grandfather’s stock market and the winning strategy is easy to conceive but I don’t think too many more folks will execute effectively on the second leg down than did on the first.

  8. 8 D-man

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    Babak, thanks.

    Hello bluebare,

    “it’s a complicated market that fairly well approximates our collective perceptions about future economic growth.”

    really? oh boy…

    “I’m waiting for economic fundamentals…”

    I understand that

    “…AFTER the Fed, government, PPT, big trading houses and overeager computers have expended their entire capital base on this fight. ”

    but can you explain how exactly you will detect that precise moment? I didn’t know the FED can expend its entire capital, I thought that is unlimited and I just keep wondering when I hear all those advisors bringing the FED argument on the table why on Earth we aren’t all rich if FED can do wonders? Why on Earth there is unemployment on this planet? If a central bank policy makes wonders, why not extend that to the whole planet and plug all the holes once and for all? Why let this market in the wild dealing with cycles, psychology, valuations etc.? Why not once for all make it a wonderful place where we are all rich?

    “Don’t fight the FED” - that’s another one I like a lot!

    Have a good weekend.

  9. 9 Wes

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    Babak,

    A market service I get follows about 20 psychology indicators and assigns points to them based on the levels of fear or greed each show. These points are summed to allow them to numerically measure the overall fear/greed in the market at any time.

    They say that there have only been two other occasions since 1990 showing greater fear in the market than that which currently exists- late 2008 to early 2009, and October 2002.

    They call these levels “bear market killing levels of market sentiment” even though no bear market is evident.

    Of course they call the current decline a simple correction.

  10. 10 Babak

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    Thanks Wes, which market service is it?

  11. 11 Wes

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    Babak,

    This service run by Don Hays

  12. 12 scott

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    For what it is worth.
    Wes Hays past calls.

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