Trading The Market's Psychology

If you were to look at a daily chart of the recent stock index market, you might be tempted to conclude that all we have are sellers, with few if any buyers.  Nothing could be further from the truth, however.  Many buyers are trying to scoop up bargains here.  So far, their buying activity has not been able to move the market meaningfully higher.  That means that bounces, while traveling quite a few points, ultimately only retrace a portion of prior declines.  That's what happens in a downtrend.

Here and here I pointed recently to the Delta measure that tracks the amount of volume trading at the market's offer price vs. the amount trading at the bid price.  That tells us something about the market's psychology:  specifically, whether buyers or sellers are more aggressive.  When we examine the ability of this aggressive execution to actually move market prices, we can get a feel for markets where hidden, resting orders are able to absorb the aggressive activity and ultimately fuel a move the other way.  It's when aggressive buyers or sellers get trapped by such resting institutional supply/demand that we can get nice intraday moves.

Above we can see this pattern play out on a micro basis.  The chart (top region) represents the upticks vs. downticks specific to the stocks in the Standard and Poor's 500 Index.  It moves differently from the more familiar NYSE TICK.  (SP TICK data from Sierra Chart).  The above screen shot is a 15-second set of bars for SP TICK with a 10 period moving average overlaid (green line).  The horizontal red line represents the zero line where upticks and downticks among the SPX stocks are balanced.  Note the occasions when we have net buying aggressiveness (upticks) with the moving average line staying above zero.  Notice how those buying episodes are often occurring at lower price highs (pink arrows).  It's a great indication that buyers are trying to scoop up fallen prices but ultimately are unable to move the market higher and become trapped, fueling the next down move.

This pattern shows up on multiple time frames with different measures of buying and selling pressure.  It's a great way to identify the moment-to-moment psychology of the market and align your trading accordingly.

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