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I'm John Ritchie and this is my financial market blog. It shows my analysis methods with current examples.
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Does a 20% drop always mean a bear market?

All week I have heard mainstream media commentators say that because major indices have dropped 20%, this means we are in a bear market. A few add the phrase ‘a sustained drop’ but most don’t.

Let’s look at the last 20% drop in 2011.

S&P500 Index

Between May and October, the index dropped 21.6% but then rallied to a new high.

Many other national stock indices did likewise, including the FTSE100 Index. Other examples include the Indian and Brazilian national stock indices in 2004 and 2006, which had 20% drops in the middle of strong bull markets.

How can we tell which 20% drops really are bear markets?

There are three ways to look at this but they are manifestations of the same thing: falling participation in the bull market

1. Divergences on cumulative breadth indicators

Bull market peaks form with breadth divergences. The number of stocks participating in the rally drops off when the index peaks.

In June 2015, I showed how the cumulative advance-decline line for the NYSE Composite Index had formed a divergence at the May 2015 high.

The chart is updated below:

Contrast this with 2011 when the late April high was confirmed by the cumulative breadth indicator.

2. Divergences on range bound breadth indicators

In November, I showed that the percentage of stocks above their 200 day moving average on the SPDR Consumer Discretionary (XLY) had formed a very pronounced divergence.

The chart is updated below:

SPDR Consumer Discretionary (XLY) and % above 200 day moving average


The ETF has since fallen from $81.47 to $73.31. Note that plenty of minor divergences did not end the trend: the more pronounced the divergence, the more likely it will have an effect.

3. Sector indices rolling over

As a bull market matures, whole sectors drop out of contributing to the uptrend. I took a sample of 50 US sector indices (not completely scientific but a sample of the 67 Industries from the S&P GICS framework).

Here is how many had rising 200 day moving averages at various dates:

29 April 2011 (closing high on the S&P500 Index then)
46 out of 50 rising

21 May 2015 (closing high on the S&P500 Index)
39 out of 50 rising

20 July 2015 (retest the May high, only 0.1% lower)
29 out of 50 rising

03 November 2015 (retest the May high, only 1.0% lower)
34 out of 50 rising

22 January 2016
7 out of 50 rising

  • At the peak, there were 7 fewer rising moving averages than in April 2011
  • By July, although the index was almost unchanged, another 10 sectors had dropped out
  • By the November peak, the number had recovered (to my surprise) but still one third of sector indices had a falling moving average
  • At the April 2011 peak, there had not been a deterioration at the sector level, so there was a pull back within an uptrend rather than the start of a bear market


  • There is enough breadth deterioration to mean that indices have topped
  • Don’t let the media tell you that every time indices drop 20%, this automatically means that it is a bear market


Narrowing breadth for the consumer discretionary sector

I heard recently that most of the recent gains in the SPDR Consumer Discretionary (XLY) came from just six stocks. That prompted a look at the breadth readings for the ETF.

SPDR Consumer Discretionary (XLY) and % above 200 day moving average


The chart shows some previous divergences that have led to turning points. Note that divergences don’t give the timing of the turn.

A divergence has been building since 2013 but since February 2015, this has become much more pronounced, making it worth greater attention.

In late February 2015, there were 84% of XLY components above their 200 day moving average. In fact, that had blown away the shorter term breadth divergence at the time. Now, only 47% of components are above their 200 day moving average.


The breadth divergence makes the sector more vulnerable to a set-back

As this sector has been one of the few holding the market indices up, this makes those indices more vulnerable

Periods during which divergences build are better for pairs trading within the sector, as there are more opportunities to spot diverging performance

Defensive sector rotation since the August low

Since 25 August, the S&P 500 Index has rallied 8.9%. There has been a sector rotation away from cyclical stocks towards staples stocks, a negative development for market indices.

In June, I showed the momentum divergence on the outperformance of the iShares Consumer Services (IYC) against the S&P 500 Index.

IYC vs. SPX weekly

IYCSPX monthly

  • Another divergence of second degree has formed and so far, the monthly RSI is back below 70
  • The MACD divergence remains in place (just)

IYC vs. SPX weekly

IYCSPX weekly
There was weekly RSI and MACD divergence at the high

IYC vs. SPX daily

IYCSPX daily

  • There was a daily RSI divergence below 70 at the high, following a divergence above 70 in early August
  • Only this last high matches my RSI divergence criteria, set out on the My methods page
  • The relative peaked on 23 September, whilst the S&P 500 made a low on 28 September. The relative has declined during a rising market

Comparison with iShares Consumer Goods (IYK)

IYK is a more defensive ETF than IYC, being heavy on consumer staples stocks whereas IYC has more discretionary stocks.

IYK versus IYC

  • IYK has rallied 10.8% since 25 August, outperforming the S&P 500 Index, so the rally has been led by defensive stocks
  • The ratio made a spike high on 24 August, coinciding with the sharp index decline
  • The ratio has a track record of peaking a few months before the end of bear markets (August 2002 and November 2008)
  • The ratio has broken above the base and is above the 24 August peak


  • The trend of outperformance by IYC is over and this is a bearish development for the market indices
  • Funds should be overweight consumer staples stocks from IYK in the medium term


CFA Level One passed

In addition to tonight’s post, I should also mention that I passed the CFA Level One exam in June! Here were my thoughts on it shortly after, so I surprised myself.

Long term moving average crossovers on sectors

The August decline only lasted three days but in the three weeks since, market indices have moved sideways in a narrow range. That is unlikely to be the end of it.

In June, I showed some long term developments for the market, including the advance decline line non confirmation.  Here I show some long term moving average crossovers that are developing or have already occurred. Looking for crossovers on moving averages that have not crossed for over four years is one of the methods described on the My methods page.

S&P500 Household Products Index

House Product

The 30 and 40 week moving averages (exponential) crossed in late May, having crossed up in late 2009. The index then turned down from these averages in mid July.

S&P500 Beverages Index


A marginal new weekly closing high was made in early August but the MACD had weakened. This index is less volatile than the S&P500 Index.

S&P500 Consumer Finance Index

Consumer Finance

The moving averages crossed in April after four and a half years in positive alignment.

S&P500 Media Index


The moving averages have not yet crossed but MACD divergence has been building since 2013 and we should soon see the first crossover for five years.

S&P500 Road and Rail Index

Road and rail
The moving averages have already crossed for the first time since September 2009. Notes that you don’t always get a nice MACD divergence.

Health versus CBS trade closed

Today I close my SPDR Health (XLV) versus CBS trade. The closing prices are:

XLV: $76.96

CBS: $53.98

Closing ratio value: 1.425713

Gain on trade: 4.8%

The health ETF shows show bearish divergence on its relative versus the S&P 500 and CBS is relative oversold, as witnessed by it holding up on today’s setback.

This might go further in the longer term but I have decided against sitting through pull backs and having just started a new job, I shouldn’t trade with distractions.

Health versus CBS trade opened

A few weeks ago, I showed that CBS had topped against health and staples stocks and that these defensive stocks were poised to break higher against CBS. Today I open a trade in one of these pairs.

SPDR Health (XLV) versus CBS


  • Having underperformed CBS for years, the long term moving average turned up in summer 2014
  • Since November 2014, the pair has consolidated those gains and the 40 week Bollinger Bands have contracted
  • The pair has now broken above the upper band and the band width has expanded

Daily chart


  • The trade is opened at a value of 1.3606 as of 8pm UK time today
  • The stop loss is at 1.19, below the late May/ early June lows
  • The position is opened in my model portfolio

The stop loss is quite wide, as it the way on these breakout trades
Today I reviewed some Bollinger Band breakouts that I noted over the last year. I saw that they don’t always take off in a straight line and that it can be difficult to judge when they won’t work.

One thing going for this trade (or asset allocation for long only managers) is that the wider market appears vulnerable from a breadth perspective, as shown on 15 June. A falling market should help this trade.