Getting the green light to buy

Those who are fortunate (or smart) enough to have some cash to deploy may be looking for opportunities to enter the market after the beating it has taken recently. Trying to time the market is a dangerous task and one where emotions are likely to get in the way of good decision making. I find that it helps to have a system to spot entry and exit points.

One system I have liked is the CRB stock market momentum indicator (SMMI). The SMMI is based on the ratio of S&P 500 companies which are below their 50 day moving average. A 10-day and 25-day moving average is then taken for this ratio to generate signals. A buy signal is generated when the ratio is low (below 35%) and the 10-day moving average crosses the 25-day moving average on the way up. Conversely, a sell signal is generated when the 10-day moving average crosses the 25-day moving average on the way down when the ratio is high (above 65%). Put simply, once things start to turn around after a broad decline, it has proven to be a good time to buy. The opposite can be true for selling. To read more about this indicator as well as get the data, you can check CRB´s website.

Since the first signal that came in 1994, all twelve signals have proven profitable, which is quite impressive when you consider that three of the signals were created from 2001-2002, during the bear market. Following is a table that summarizes the results.

 

I consider the SMMI most useful as a medium-term market timing tool. My preferred way of playing it would be through options on the S&P 500 or with a leveraged S&P 500 ETF, such as the Ultra S&P 500 ProShares (SSO). Be warned that while SSO tends to roughly double the S&P 500 return on the way up, the difference on the way down is even more pronounced. You can read more about this here. For those who have cash on the sidelines and are looking to increase their equity exposure, the SMMI can also be helpful in identifying good entry points.

This indicator has not yet flashed a buy signal. However, I am highlighting this because I anticipate that a signal will be coming soon. I will touch on this again when a buy signal appears.

Full disclosure: Long SPY