Tuesday, May 22, 2007

NYSE TICK and the Small Cap/Large Cap Relationship

The NYSE TICK tells us something about sector strength. Long time readers of this blog are familiar with my cumulative Adjusted TICK statistic. This takes the NYSE TICK (the number of stocks trading at offer minus those trading at their bid prices) and subtracts from each one minute value the average one-minute NYSE TICK reading from the prior 20 days. These values are cumulated to give a single end-of-day reading. If the cumulative Adjusted TICK is above zero, it means that we're seeing a tilt toward buying interest (lifting of offers) among the broad list of stocks. If the cumulative Adjusted TICK is below zero, it means that we have net selling sentiment (hitting of bids).

Since 2005 (N = 596 trading days), the cumulated Adjusted TICK has correlated very highly with concurrent daily price change in the S&P 500 Index (SPY; .76) and price change in the Russell 2000 Index (IWM; .80). This is why one of my most effective intraday strategies is to assess shifts in the distribution of the TICK for emerging directional moves in the indices. Shifts in the TICK, including breakouts from ranges, frequently precede or initiate short-term directional moves in the indexes.

But suppose we are interested in answering the question: should I be trading the large cap index (S&P 500 issues) or the small cap index (Russell 2000)? Or suppose we decide to craft a pairs trade in which we'll be long one of those indexes and short the other one. In both cases it turns out that the cumulative Adjusted TICK provides useful guidance.

I went back to 2005 (N = 596) and found that the cumulative Adjusted TICK correlates .60 with the difference in performance between IWM and SPY. Specifically, when the Adjusted TICK is strong, IWM is significantly more likely to outperform SPY than the reverse. When the Adjusted TICK is weak, we see underperformance of IWM relative to SPY.

In fact, when the cumulative Adjusted TICK was above zero (N = 301), IWM outperformed SPY on 212 of those occasions. When the cumulative Adjusted TICK reading was above +300 (N = 144), IWM outperformed SPY on 114 occasions, or about 80% of the time.

When, however, the cumulative Adjusted TICK was below zero (N = 295), SPY outperformed IWM on 196 of those occasions. When the cumulative Adjusted TICK reading was below -300 (N = 139), SPY outperformed IWM on 117 occasions--over 80% of the time.

A strong NYSE TICK not only tells us that there is buying interest in the market, but it's also telling us that the buying interest is extending to the broad list of stocks, including small caps. Similarly, very weak TICK readings tell us that investors are selling off the smallest of stocks along with the larger ones. In strong or weak TICK environments, traders can consider trading long or short positions in IWM or perhaps constructing pairs trades in which they are long IWM/short SPY (or the reverse in a weak TICK setting).

Note that this strategy also suggests that it could be fruitful to monitor custom TICK measures for specific market sectors. (The NeoTicker platform enables the construction of such TICK-specific measures). A range of ETF trading strategies (or pairs trades among ETFs) could follow such an effort--a worthy area to research.

RELATED READINGS:

Trading With the NYSE TICK

NYSE TICK and Short-Term Breakout Moves

6 comments:

Jeff said...

So "Adjusted Tick" is a form of tick momentum as opposed to an absolute indication of daily tick direction? Would you kindly confirm or correct that intuition? Thanks!

Trader Musings said...

Hi Brett:

I saw your suggestions on using a Cumulative TICK indication in the TradeStation Forum awhile back and developed my version of this indicator for a Two Minute chart.

It has helped me sense the bias of the cash market for intra-day trading. I have charts which illustrate how I have been using this indicator at http://tradermusings.blogspot.com/

I welcome any suggestions or comments about this indicator.

Thanks for all of your suggestions.

Charles

Brett Steenbarger, Ph.D. said...

Hi Jeff,

Yes, Adjusted TICK compares the current TICK readings to those over the past 20 days.

Brett

Brett Steenbarger, Ph.D. said...

Hi Charles,

Thanks for the comment on the indicator and the link to your excellent blog--

Brett

dave said...

Brett
Would using the Dow instead of the SP against the Russell work better?
Thanks.
Dave

Brett Steenbarger, Ph.D. said...

Hi Dave,

Yes, I think a look at the Dow vs. Russell as a function of NYSE TICK would be quite promising--

Brett