Momentum and Participation Divergence
Igor Manukhov - Feb 02, 2024
As market continues to defy gravity, momentum is slowing down and fewer stocks carry the market. Be patient.
2024 started very strong. Especially for US stocks. Those that follow my articles will point out that I have been wrong so far this year in recommending investors to proceed with caution. Guilty as charged. Yet, here I go again. This is not stubbornness. I simply follow the process that I tested rigorously.
What you see below is an example of market momentum and participation divergence. Notice how market price keeps going higher (top panel), yet indicators on the bottom three panels are making lower highs (blue lines in the orange circle).
Indicators below are in the following order from top to bottom:
1. Relative Strength Index (RSI, second panel from the top). This is a momentum measure. Indicator fluctuates from 0 to 100. Readings above 70 correspond to market being overbought and readings below 30 correspond to market being oversold.
2. Moving Average Convergence Divergence (MACD). Another momentum indicator that measures the distance between shorter and longer turn price moving average. Rising indicator corresponds to increasing momentum and vice versa.
3. Bullish Percent Index (BPI). This is a market participation indicator that fluctuates between 0% and 100%. It measures how many stocks on the market are bullish at the moment in percentage terms.
Ideally, when markets are going higher, you want these indicators to move in the same direction with the price. When they are moving in opposite direction, it often indicates a short term weakness of some sort. I have highlighted previous instances of divergence in red circles. It is a possible that this time is different. No indicator or setup will be 100% accurate, but I have seen enough of these over the years to recommend yet again to proceed with caution. I hope I am wrong, but time will tell.
