These are the Indicators that Don Hays used in 2002

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Psychology Indicators

ARMS Index - 10 Day Average

The purpose of the TRIN (also called the ARMS Index after its inventor, Richard Arms) is to express the relationship of volume in advancing issues to volume in declining issues. When the market is rising we want to see more volume going into advancing issues than declining issues. When this doesn't happen, negative divergences occur. The opposite is true in declining markets. A chart of the index will display points where the market is oversold and overbought as well as divergences between the market and the TRIN. The basic raw calculation is as follows:

Advancing Stocks/Declining Stocks
------------------------------------- = 1 Day ARMS Value
Advancing Volume/Declining Volume

Definition courtesy of DecisionPoint (http://www.decisionpoint.com)

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3 Minus 39 Week Equity Put/Call Ratio

This is one of the best of all psychological indicators. It measures the current level of fear to greed by the worst group of investors of all--the equity option trader. We use the weekly equity put/call volume numbers as included in Barron's each week. Most option traders lose money, and are always the most wrong at the extremes. In other words when they get extremely greedy (low put-call ratio), a wise investor should be getting very cautious-and vice versa. Therefore, when the 3-week average of the put/call ratio moves 12% above the 39-week moving average, it typically means that the pessimism by these typically wrong speculators is about as bad as it is going to get. The 12% line is the line that receives many more tradable signals, but once in "blue moon," this ratio really has a panic attack that pushes it above the 20% level. When this occurs, in the past it has been setting the stage of one of those very rare and best market buying junctures that only come as intense fear is vastly overdone.

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AAII Investor Sentiment

There has been almost a "cult" following by the bears in the last 10 months to the sentiment surveys. They have persistently pulled out one or another of them to support their case. In other words they have said that there is still "too much bullishness" by the surveyed professional and/or public investors. To begin with, I have NEVER considered these polls as primary indicators, and in the case of some, like the Investor Intelligence numbers that is so popular, no exact "trigger" level of bullishness has proven to be dependable to produce negative or positive action in the future. Admittedly, you can usually look back, and say "there was too much or too little bullishness," but at the moment you can never pick an "exact" ominous or bullish level. But with that said, I respect the results of this AAII survey more than most. The American Association of Individual Investors has been compiling this poll of its members for the last 15 years. Their members, by and large, are composed of individual public investors. In my opinion, this is one of the best of the investor surveys, being much more sensitive to weekly changes. We take the raw numbers that comes from this poll, and plot 3-week averages to take out the normal weekly volatility. In general, when the bullishness gets to 60%, that is a very dangerous signal. A drop to 30% or less in the bullish reading is considered very bullish for future market prospects. Likewise, a reading in the bearish reading below 15% is negative, and below 10% extremely worrisome. The bearish readings on the upside are not as exact for predicting buying junctures, as those from the bullish respondents. The results of the survey are typically posted on the AAII website on Wednesdays.

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Equity Put/Call Ratio

As the name implies this indicator simply compares the daily volume of the equity puts to that of the calls that are traded on the CBOE. This data is given each day on the CBOE's excellent website. It is an excellent way to measure points of overdone optimism and pessimism. It is a contrary indictor, and the signal attempts to go exactly opposite to the moods of these usually wrong option traders. This indicator has been very good in the past on a penetration of the 72% level. Very rarely, this will move to 90%, and that has been a sign that a significant bottom is extremely close.

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Equity Put/Call Ratio - 15 Day Average

The 15-day equity put/call ratio, as the name describes averages the equity put/call ratio as noted on the CBOE over the last 15 days. This is not an indicator that I use for precise signals, but only to help me compare trends. It is useful to equate current levels of fear to greed by the almost always wrong equity option traders, with previous periods.

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Total Put/Call Ratio - 15 Day Average

The 15-day total put/call ratio, as the name describes averages the total put/call ratio as noted on the CBOE over the last 15 days. This is not an indicator that I use for precise signals, but only to help to compare trends. It is useful to equate current levels of fear to greed by the almost always wrong option traders to previous periods.

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Smart Money Index

I first read of this Smart Money Index, in an article the developer Lynn Elgert wrote in Barrons in the months following the 1987 crash. It had called that crash with a lead time of several months. It doesn't call every move, but when it has made a decisive signal by not confirming the action of the Dow Jones Industrial index, from which it is based upon, it has been virtually perfect on its predictions. This is an index that is prefaced upon the principal that the trading during the first 30 minutes of each day is very emotionally based, and depends so much upon the fresh "hype" of the morning news and media "talk." That is considered "dumb" money. But the trading in the last one-hour of trading is not very news motivated at all, in fact it is based solely upon the overall reasoned out logic and analysis. That is considered "smart" money. So the cumulative index simply subtracts the performance of the Dow during that first 30 minutes, and adds the performance of the last one-hour. The signals come when the "Smart Money" index does not confirm the new highs or lows of the Dow Jones Industrial Average's. I think the basis for this index is ingenious. It only includes two times in its cumulative progress. It subtracts the action of the Dow Jones Industrial Average during the first 30 minutes of the day. Very obviously, the first 30 minutes of the day is the most emotional time of the trading day as all the news releases, analyst upgrades/downgrades, and morning financial news programs are hyperventilating over the latest corporate or government bit of jabberwocky. When Maria does her handstands and cartwheels (Ra Ra Ra), highlighting the morning's hype through her cheerleading megaphone, the juices of those unsophisticated "dumb" money investors rush to enter their market orders before the opportunity to "strike it rich" gets away. So very intuitively, trying to measure just the smart money this index totally subtracts that 30 minute's performance from the ongoing cumulative total. The least emotional time, of course, is the last one hour of trading. Very rarely does any news come out in the afternoon hours. So the investing that is done in the last one hour is generally more a function of a thought-out reasoning process. This index adds the Dow's performance of the last one hour. The stellar performance of this index shows that in the times that the upward slope of this Smart Money Index confirms new highs in the Dow Jones Industrial Average itself, the market's progress is healthy and more upside remains. But conversely, when the Dow makes new highs, while this index is dropping well below its high, it is a signal that the BIG money, the "smart" money is very persistently headed for cover. This index has really hit a lot of home runs, calling the serious declines in 1987 and 1998 well in advance. It tends to have a lead-time of 75-85 days, which is good, but also very testing to its followers.

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Volatility Index - VIX

Explanation of Indicator: This indicator is a measure of the volatility of the options that are listed on the CBOE. We don't use this indicator as a short-term indicator as so many others do, since I have never found exact levels that are historically accurate to predict rallies or corrections. My lack of confidence in the VIX as a short or longer-term indicator was verified in a very in-depth report just completed by a Merrill Lynch Quantitative Analyst that found no consistent predictive abilities of this indicator in past market history. I totally agree with the attempts by the "traders" to make it such, except in the rare cases that it moves above the 45 level, and that has ALWAYS indicated a major buying juncture for the long-term investor.

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Dow Theory

Dow Theory Charts - Dow Jones Industrial Average & Dow Jones Transportation Average

This page combines the two charts that make up the observations used by Dow Theorists. I am not an advocate of the Dow Theory as a sole independent method of market analysis, but the action of these combined indices do often tell an important message. The theoretical message comes when both the Dow Industrials and Dow Transports makes a low, then higher highs, a higher low, and then a higher confirming high. Practically, however, I watch the relative action of the Transports at significant turning points as a leading indicator since it often is an economic indicator, and a leading indicator for the economically-sensitive sectors of the stock market. It might be argued that this measures more of the old economy than the new, but I believe both old and new are very integrally connected. In general it is the old economy companies that buy the new economy products.

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Relative Performance

ValueLine Arithmetic vs. S&P 500 (White Chip/Blue Chip Index)

I call this my white-chip/blue-chip indicator. Since the Value-Line index is an arithmetically averaged index of the performance of all 1700 of their stocks-equally weighted, and the S&P 500 is a market-cap weighted index of the performance of the largest 500 companies that trade on US exchanges, the relative performance is a good gauge of which type of stocks are outperforming. The Value-Line index could be considered not only a "closet" value index, but a "closet" mid/small cap index as well.

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Market Valuation

IBES Valuation Model

This valuation gauge was developed by IBES (Institutional Broker Estimate Survey.) It compares the earnings yield (Earnings/Price x 100) of the S&P 500 based upon its current level and the 12-month forward earnings estimate, to the current yield of the 10-year Treasury note. Over several decades these two parameters have closely tracked each other, and when one strays from the other, it produces either over or under valued conditions for the appropriate item. We have marked on the graphs the specific zones that we use to determine the relative attractiveness of bonds versus stocks. This is factored into our asset allocation process to determine our stock/bond weighting in our portfolios.

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Monetary Indicators

Two-Year Treasury Bond Momentum

This indicator simply compares the current level of interest rates on the 2-year Treasury Note to its yield of six months ago. This has been an excellent gauge of the direction of monetary liquidity toward greater or less liquidity or restraint. Any time that this is above 1.0, it is a negative for monetary liquidity, and indicates that monetary restriction is being (or about to be) applied.

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Yield Curve - 10 Yr Treasury Bond vs. Treasury Bill

This is the "yield curve," which many studies show is the best of all the leading economic indicators. If I had to pick only one monetary indicator to watch, this probably would be the one. Economists declare the "yield curve" as the best monetary indicator to predict the economy one year in advance. This was the indicator that confirmed to us a year ago that the odds were high that the economy would be in a recession by this year. That was suggested last year when this dropped under 1.0. In mild recessions or economic slowdowns with few excesses or problems to overcome a steepening of this yield curve up above the 1.2 level is positive and will yield some economic improvement. But in weaker recessions that need a little extra "umph," it requires a move above 1.4. That had already happened before the 9-11 disaster, and there were already signs, i.e. N.A.P.M. Composite index, that the economy was already starting to respond positively. In the past, when bankers and borrowers are paralyzed at the switch, it takes a special "jolt" that is provided when this "yield curve" is forced above 2.0. That worked like a charm in 1991. The higher the better, which shows the interest rate of short-term t-bill rates is substantially under that of the long-bond. A high level would show that the Fed is loosening its restraint commiserate with the inflation outlook as personified more closely by the yield of the long bond.

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Bond Momentum

This is a 14-month Coppock momentum formula applied to the 30-year U.S. Treasury bond's yield. The momentum is measured over two time periods in the last 14 months, and the direction of the momentum has historically revealed both attractive buying and selling junctures for bonds. It has especially exhibited an amazing ability to locate major buying junctures for long-term government bonds. If you look carefully, you will see that each time this momentum drops under -100, it has almost exactly pinpointed all of the best buying junctures for long-term bonds in the last 20 years. As the momentum graph moves upward, it then is wise to start shortening the maturities on new purchases.

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Commercial Paper vs. 14 Month Average

For this indicator, we simply compare the yield on the dealer commercial paper rate of the shortest maturity to the average yield over the previous 14 months. The differential in this difference has been an excellent indicator of corporate liquidity.

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Long-Bond Indicator

The blue line compares the trend of interest rates on the long-term government bond over the last 3 weeks to that of the last 15 weeks. The red line compares the last three week's yield to that of the last 39 weeks. As long as this line is under the zero line, it is a sign that the long-end of the curve is also providing a positive influence to stocks (and to the economy.)

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MZM Money Supply

This is based upon the latest weekly release of banking statistics. These statistics are always released two weeks after the date recorded. As you review the weekly progressions of this indicator, it is important that the primary presentation is sown by the black line that shows the year over year growth rate of this aggregate of money supply. But the blue line is the growth rate over the last 13-weeks annualized, and it is very effective at showing the more recent action, whether the Fed is allowing this important money supply aggregate to expand or contract. The MZM aggregate is the money supply of zero maturity, and Federal Reserve studies have shown that this aggregate has the best record in recent years of predicting the economic growth in the next 12 months. In the past, you will see that when the year over year rate moves above 10%, it has been extremely bullish for the stock market, and it remains a bullish factor until it reverts back under the 7.5% growth rate.

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Treasury Bill vs. Discount Rate

This indicator is the one that I use to tell whether the Fed is about to lower the fed funds rte. Traditionally they do not lower the fed funds rate until the t-bill rate drops under the discount rate. On those rare occasions when it drops under the discount rate by 8-10%, look for a drop in the fed funds rate in the days ahead, and usually more than anticipated by popular opinion.

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Market Trends

Dow Jones Industrial Average
Dow Jones Transportation Average
S&P 500 Index
S&P 600 Index
ValueLine Arithmetic Index
NASDAQ Composite

Market Breadth Indicators

NASDAQ Advance/Decline Line

The advance/decline line is a cumulative total of daily advancing stocks on the NASDAQ minus the number of declining stocks. Technicians watch this line closely to see when it either does or does not confirm important upward or downward trends in the NASDAQ indices themselves. Oftentimes, the advance/decline line will be an important indicator to show approaching tops. I have not found it to be very effective at locating bottoms, however. This is a daily calculation, and it does have a negative bias on the downside. I consider this a secondary indicator, and not one to use as a primary benchmark indicator.

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NASDAQ Net New Highs

This indicator is extremely important in my opinion to really understand what is going on in the market at important junctures. I believe it tells far more than the indices themselves that often are distorted by a highly fragmented sector action. It simply charts the net number of stocks that make new 52-week price highs each day minus the ones that make new lows. I also watch each of those individual inputs for further clarification, but in general this "net" adaptation tells the story very effectively.

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NYSE Advance/Decline Line

This indicator is simply a cumulative chart that displays the net number of stocks advancing each day subtracting the number of stocks declining in price. Technicians use this indicator as a tool to show when the internal market might not be confirming the action of one of the indices. It has in the past been fairly accurate at predicting a coming period of weakness, when this line starts down while the corresponding index, i.e. S&P 500 continues to move up. I do not consider this indicator to be a primary indicator, but do watch it for anecdotal evidence. It is very ineffective at predicting bottoms since it almost always is making a new low in the troughs of bear markets.

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NYSE Net New Highs

This is an index that shows the daily net new highs of all the stocks trading on the NYSE. The net new highs is obtained by subtracting the number of stocks on the NYSE that make new 52-week lows each day, from those that make 52-week highs. This indicator is one of the very best to decipher the action of the "real" stock market, and not just an index that may be distorted by uneven market weighting, or by some esoteric method of calculating the performance.

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Market over bought / over sold Indicators

McClellan Oscillator

The McClellan Oscillator is a breadth-based indicator, which means it is derived from the daily advances minus declines on the New York Stock Exchange or the NASDAQ. It is basically the result of subtracting a 0.05 exponential average (40-day moving average) of advances minus declines from the 0.10 exponential average (20-day moving average). It was invented in the 1960's by Sherman and Marion McClellan, and since then it has proven to be one of the most useful analysis tools in existence.

The McClellan Oscillator is an intermediate-term indicator, but it can also be used for short-term timing when it bottoms in oversold territory -- in the area of -100 and below. When the McClellan Oscillator moves below the Zero Line a SELL Signal is rendered, and a BUY Signal results when it moves above zero; however, these are general guide lines not hard rules guaranteed to result in profitable trading.

A "typical" McClellan Oscillator pattern series consists of consecutive formation of a Complex Bottom, a Middle Spike, and a Buy Spike. The typical Complex Bottom is a bowl-shaped series of oscillations below the Zero Line while the market is declining. This is followed by a move above well above zero, which begins the formation of the Middle Spike -- a stalactite between the move above zero and the move back below zero. The Middle Spike signals the beginning of an intermediate-term up move, but it is usually followed by another down move, possibly to lower lows. After the down leg of the Middle Spike has concluded, we can expect a Buy Spike, which as the name implies signals a new up trend in the market. Buy Spikes are normally formed in oversold territory (-80 and below), but rising series of Buy Spikes is also a possibility.

While this is a typical series of chart formations that will help us identify changes in market direction and determine current market status, unfortunately, they may not appear in the specified order . . . or at all.

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NYSE Overbought/Oversold Indicator

This indicator is based upon the difference that exists in our daily cumulative advance/decline line, and a 30-day exponential average of that line. Even though I don't consider this a primary indicator at all times, it is very good at indicating a promising buying juncture when it moves down to -50, or a vulnerable juncture when it advances above +50. But every once in a while, usually about every four years, it does drop into the extremely oversold level below -80, and that has proven to be an outstanding buying juncture, usually marking a new bull market.

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