Friday, June 27, 2008

NDX Drops 4% and IBD Bag Indicator Is Yellow…

Earlier this month I talked a little bit about the mean reverting bounce associated with a 3% one day drop in the SPX in VIX Spikes and SPX Drops Are Not Necessarily Two Sides of the Same Coin.

Yesterday, we had a 4% drop in the NASDAQ-100 (NDX) and, not surprisingly, the 33 year historical record of 4% drops in the NDX suggests that a bounce is again likely to follow yesterday’s pain. What I found particularly interesting is that the bounce following a 4% NDX drop has a lifespan of only a month or so before any incremental gains revert back to the historical norm. In fact, the maximum post-bounce advantage peaks at about ten trading days, then slowly starts to erode. Looking at data from all 108 of those 4% drops, average performance begins to drop after the tenth day and is decidedly bearish during the period of 2-6 months after that 4% drop.

Part of the reason for this statistical bull trap is the relatively high number of 4% drops in the NDX that occurred during the 2000-2003 period (accounting for 75% of all 4% drops during the 33 year period under study), which lends a bearish cast to the data.

So what about the IBD bag? Well…someone decided to start me on a trial subscription to Investor’s Business Daily about a week or two ago. I scanned the paper for the first few days and noted with a smile that it came wrapped in a green plastic bag. Yesterday the paper arrived in a yellow bag and I wondered if this was some sort of signal from Bill O’Neil or God or perhaps both. Of course, the markets proceeded to plummet on that yellow bag day. So today I look outside in eager anticipation to see what color the bag is and it’s yellow again. This time the markets are only down about 0.7%, but the day is young. I wonder what it means when the paper arrives in a red bag?


transformation said...

wonderful bill.

i sold my july 48 QQQQ puts late thur, to take an initial stab on 45 calls. i specialize (outside my prior prof work on the street on the long side) in going short, so calls are rare. when i saw the end of day dump, added in. i didnt want to see the puts have premium erosian, as often happens following a big jump in volatity.

today, i winced, late fri, to see those same puts (that i had sold the day before) down 4% when my calls were down about 5%. i felt great to have this.

i checked in latter (i am not a day trader, but position hold, with emphasis on scaling in rather than stop loss) and was delighted to see the premium on the calls held, despite slight minus on NDX.

i read your note here, and feel dubly good.

fundamentally, since the us is in a real long term secular decline, upon fiscal craze, and an incipient falling dollar, with global gridlock and a vacume in leadership, am a bear. very bad structure to our society.

but short term, i take recent 40% profits and run long for a few days or a week, lets see.

warmest, dk

Marc said...


I share your sentiments precisely. We're in a bearish environment without doubt. I've been trading successfully with the QIDs for the past few weeks and the trend is anything but up.

However, late Thursday and Friday AM I decided to try a bit of long action. The drop on Thursday was signifigant and the rebound late Friday was what I was expecting. All we need is some more bulls to convert to bears and we're set for a short covering rally.

Caveat: sometimes I can be too early on these things...we'll see.


Aviator said...


Great stuff. What do you make of the VIX failing to make a new short-term high above the early-June high while the S&P continued to make a new low? Potential near-term bullish implications for equities?


transformation said...

does tend to be a bullish divergence, if only for a day or two or a week, but still, as often happens at MACD wich starts to indicate some accumulate with succesively higher lows, while the indices fall lower.

transformation said...

you blog is closed. might i please be invited in to see it? thank you, david k seattle

Bill Luby said...


Regarding complacency in the VIX, I do think that is bearish, per the Don Fishback post from today, et. al. -- but it is not fatal.

The markets can bottom without a VIX spike, but a VIX spike certainly reinforces that a bottom has been made.



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