We know the best indicator to follow for the market is price action, and volume is the next big one. But other indicators can give us a glimpse of what is happening underneath the market, perhaps giving us a 'heads up' to some violent moves yet to be seen. While we can reach for a number of different indicators to paint a picture for us, there are certain ones that are very reliable. Among those include the put/call ratio, breadth indicators and oscillators.
Options are a great view into the actions of the market. The put/call ratio is a raw look at where players are actually placing their money bets in the market. What better indicator is something telling you that 'yes, they bought puts heavily'. But what is often lost is trying to evaluate timeframe. Maybe those purchases were done as a form of protection, or perhaps seeing some heavy downside ahead. They could simply be wrong, but not often when there is high conviction. The put/call ratio is a nice snapshot of money flows in options, and it is often a good lead into directional shifts.
Oscillators (McClellan, or MCO) show a different view of the market. Breadth is extremely important and is often cumulative. The MCO shows the amount of issues gaining vs. retreating but on a trending basis, smoothed for longer and shorter timeframes. This oscillator has been around for some 50 years and quite often tells us when the market is at extremes. Overbought levels should be sold, oversold levels bought aggressively. The market action played out exactly as the indicators were portraying for several days - weakness.
Recently the put/call and MCO were flashing huge red warning signals. Yet, the indices were still at/near record highs. The indicators were saying the market should be coming down, but the timing is hardly ever precise. However, if you heeded the warnings which were flashing since early July, you might have saved yourself from losses that accumulated from July 15-19 (down 2%-3%). Price action is always the most important, but when the supporting indicators are not in sync, something is amiss and bound to crack. This time it was the market, if just for a few days - enough to give everyone the shivers.
