Thursday, January 31, 2008

Ratio Charts and Tracking Sentiment in Real Time

In my recent post, I mentioned the behavior of key financial stocks as a sentiment measure. Today's trade gave us a nice example.

You may need to click the chart to see more clearly. This is a two day, five-minute ratio chart that is tracking the ratio of the price of MBIA stock (MBI) to the S&P 500 Index (SPY). So what we're really looking at is the relative strength of MBI in real time. When MBI is outperforming SPY, it suggests confidence in the credit situation and a willingness of traders to assume risk. When MBI is underperforming SPY, it suggests a lack of confidence in the credit situation and a risk aversion.

Note that we saw risk aversion going into the Fed meeting yesterday and then especially after the announcement. Credit concerns trumped the news of the 50 bps rate cut.

Today, we opened with a spike down, and it looked as though credit worries and risk aversion would dominate this session as well. Note, however, the dramatic reversal 15 minutes into the session, which completely altered the tone of the day. We never took out the overnight lows and, indeed, roared to a solid gain in SPY.

I'm using Real Tick to construct these ratio charts; they can be tracked in real time just as normal price charts. Trends and breakouts have important meanings in ratio charts, as in price charts. In this case, the reversal in the chart reflected an important reversal in sentiment that left bears scurrying to cover their shorts.


Ziad said...

This is brilliant analysis Dr. Brett. Simple yet so logical. In fact, the underlying logic of this type of relational thinking can be extended to so many different situations, and I think it is most helpful during times of great uncertainty when standard price/volume analysis leaves one unsure of the true overall direction the market is taking.

Thanks for the thought-provoking articles recently (and always).

Brett Steenbarger, Ph.D. said...

Thanks much, Ziad, and thanks for your thoughtful comments on the posts--