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Market Sentiment Indicators

Market Sentiment Indicators

These indicators are based on the concept of contrary opinion. The idea here is that the majority will be wrong most of the time. There are several indicators or sources from which contrary opinion can be evaluated. These include Market Vane, the USDA Commitment of Traders Report, odd lot short sales (for the stock market), and my own Daily Sentiment Index (DSI). The theory is simple: When bullish sentiment is too high, prices tend to top, and when bullish sentiment is too low, markets tend to bottom.

The Good News. Market sentiment and contrary opinion have a lengthy history of validity and reliability. They can be used in an objective way, preferably with timing and other technical tools.

In addition, they can be used with fundamentals and as inputs in neural network systems. Market sentiment indicators tend to be leading indicators. They can also be used for short-term and intermediate-term swings.

The Bad News. These indicators are sometimes too early in picking tops and bottoms. In some cases the data is not timely, since there is a lag in the time it is collected and the time it is made available to traders. (To the best of my knowledge, my Daily Sentiment Index is the most timely. It is usually issued within several hours of market closings for the day.)

Some measures of market sentiment are not objective (e.g., examining newspaper headlines and stories for their bullish or bearish content).

Solutions. Use these indicators in conjunction with market trends and timing. Use moving averages of market sentiment data to develop a timing approach.

Breakout Methods for Day Trading

Of all the trading techniques and tools available to day traders, those methods that use breakouts above resistance as buy signals and breakouts below support as sell signals appear to be the most viable for the average trader. As we already know from methods presented earlier in this chapter, this approach is often the most difficult for traders to follow, since it requires buying at a high price and (hopefully) taking profits at a higher price, or selling at a low price and (hopefully) taking profits at a lower price. Among the methods for achieving this end are several that I discussed in my first book on day trading, The Compleat Day Trader. Of these, the most widely followed is the critical time of day (CTOD). While CTOD was a good method and is still viable, I have developed another breakout method called the 30-minute breakout.

Another breakout method is my range breakout system. This approach is a day-trading variation on the theme of the Keltner-type resistance and support breakouts. Several breakout methods are discussed in this book. I believe that such methods are among the most reliable, most consistent, and most profitable for day traders.

Summary

This chapter provided an overview of the major timing and trend indicators most often used by contemporary traders. Of those discussed, only a precious few have merit for the day trader. I presented the pros and cons of each major approach, indicating how the limitations might be overcome. I rejected some methods as either too subjective or too inaccurate. While some methods and systems appear to make sense on a surface level, they do not make profits when tested or traded. Other methods were rejected as grossly inaccurate or as having drawdown periods that were too large.

The day trader has many methods, systems, and indicators from which to choose. This chapter has attempted to help narrow the field and direct your focus to the few approaches that appear to have merit. While there is a great temptation for the trader to be intuitive, it is always better in the long run for a trader to be objective, leaving as little as possible to the imagination. Objective, reasonably scientific, and mechanical systems are favored.