TDI Podcast: McClellan’s Quiet Market Trap (#982)

27:25All the rest of them stay the same. An exponential moving average only depends on the new data and how far you are away from the moving average. And so it's a lot easier to keep track of mathematically. In fact, the math was borrowed from rocketry because when you're designing a guidance system for a rocket, you want to smooth the input so that you don't adjust the tail fins on the rocket to steer toward the target too quickly. You want to smooth it. And so they used exponential moving averages for that, which was easier to code into analog circuits because you only had to keep track of two things.

27:57Whereas with a simple moving average or other math, you had a lot more math to keep track of and it was harder to code that way. So the guy named Pete Harlan was a big influence on my parents back in the 60s. He was an actual rocket scientist at the Jet Propulsion Lab. And he was the first guy west of the Mississippi anyway to use a computer for doing stock market analysis because he had access to one. And he typed in data on IBM cards and ran it at night when he could get on the computer and he used exponential moving averages. So there's definitely a place for that. That's great. So I have a good friend, John Markman.

28:31He would do writings all the time. This is what kind of got me interested in all the differentials on how these are constructed. But he would have like, hey, let's look at this. But it was a fitted moving average. So he would tinker around with a moving average on a stock to see where that stock was finding, let's say, support on a regular basis more times than not. And it was a fitted. So you would have, I'm just picking this out of the blue, maybe. IBM would have a 93-day moving average or something like that. That would be the number that somehow, for some reason, that was the number for that stock, that whether it was just happenstance that it was what it was at this point or whether some players were actually using that, but that always seemed to fit very nicely in his logic.

29:18Just a weird situation. Well, there's some utility to that. But going back to what we're talking about is you're basically hunting by using a moving average, you're hunting for what the cycle is that's dominant in that data series. Right. And using a different moving average and trying different ones is one way to home in on that information. But cycles can change and it's possible to overfit. You run into the risk of overfitting to the data and having the future data not necessarily work the same as the past data, even though you expected it. So it can be it can be it can cut both ways. Yeah.

29:50So you recently talked about oil and you talked about oil's upturn was on time. But this kind of, by the way, talks about our cyclical nature and depths and timing issues where something can be right, but it may the magnitude. So you talked about it was overdone by the Iran war and you wrote that oil's rally was fundamentally on schedule. But now the question is, what does the normalization in oil prices tell us now? And let me cover the background of how that forecast came about. Oil prices in their movements, they tend to match the movements of gold prices about 20 months ago. So whatever gold was doing 20 months ago, that's what oil prices are going to be doing now.

30:40Not perfectly, not exactly. And as we discussed, the magnitude can be very different based on events. And so the upturn that we saw in oil when it bottomed down near 60 and went up to above 100 got overly magnified by the U.S. going to war with Iran and shutting down the Persian Gulf. And that obviously had a big impact on the magnitude of the movements. But the upturn was on schedule. So now you've got to that situation where the price has gone way off track and it's got to get itself back on track to be matching what gold's message says. if you remember gold 20 and a half months 20 months ago gold was about 2500 bucks and it jumped up to 5300 bucks that doesn't necessarily mean that oil has to double um just because gold doubled it doesn't mean that but it does mean that it should be upward oil has oversteered a little bit gone off the road and it's got a it's got to oversteer the other way to get back on the road but the road is still pointed higher based on what gold was doing 20 months ago and so we've seen the premium, the war premium coming back out of oil to get it back on track again.

31:45And it should start to resume what the normal uptrend was going to be before the war amplified the movement a little bit much. So I know I'm hearing, somehow I'm hearing telepathically the questions from our listeners. And they're probably asking this question because you do this a lot and looking at offset analogs, right? Why 20 months? Now, I know you're probably going to tell me because that's what works. But seriously, why 20 months? I wish I had a better answer than that, but that is the best answer. That is what works. And it's been working for decades. It also works in bond yields with a slightly different offset.

32:23It's about 19.8 months for oil and it's about 20 and a half months for bond yields because that's just what fits the best. And it doesn't fit perfectly all the time. So this up move that we saw in gold 20 months ago is telling us about the up move that It is underway in bond yields and should be getting back underway in oil prices. I wish I knew why it works. And this is not the same thing as an analog where Paul Tudor Jones was famous in 1987 for noticing that the pattern of the stock market in 1987 looked a whole lot like the pattern of the stock market in 1929. And so that is a true analog where prices are tracing out the same dance steps from one period to another.

33:03the the it's a leading indication relationship between gold and oil or golden interest rates which is different than an analog right what what you're seeing in that leading indication relationship is you're basically seeing the same waves hit one market and then those same waves hit another market it's like if you're if you're standing on the end of a pier out in the ocean you watch a wave go underneath your feet well that same wave is going to hit the shore sometime later. And so if you can think of gold as being out on the end of the pier and telling us that there's a wave coming and bonds and crude oil are on the shore, that same wave is going to hit them after the lag time goes by.

33:42Why it's that much doesn't really matter. As long as we can figure out what the lag time is, it doesn't really, it doesn't change what we do to know the purpose behind that lag time. It's just how the universe works. Our job is to figure out the universe's rules as opposed to telling the universe how it's supposed to work. You are best on that. So first of all, I want to mention that Tom has some great stuff that he does that you can get. You can get a letter that he puts out on a regular basis. Why don't you tell everybody before we get to the end of the show, I want to do it now. How does everybody get your letter and where do they find stuff?

34:12Well, MC oscillator.com is our website. You can see our samples of our twice monthly stock market newsletter, the McClellan market report that I write with my father Sherman, who's still alive. He turns 92 this month. still loving the work. And we also write a daily edition every day, the market trades. If you're not sure you're ready to pony up the money for the good stuff, you can get some good free information in our weekly chart and focus series. It's just a, I pick a chart every week and talk about it in depth and you can sign up for that for free. You can also see every issue of the chart and focus all the way back to 2009.

34:49So people ask, when are you going to write a book, Tom. And I say, well, I've been writing it one chapter a week since 2009. It's just in serial format. Yep. So one of the things, the hallmark, which carries your name, I know that your parents put it together because you and I have talked to listen, you and I have been talking since 2009 or eight or something like that. We've been going back a long time, you and I, and by the way, just to let you know, 20 years of this podcast is coming up March of 2027, 20 years. Wow. That's which makes me feel old. But that's another story entirely. 20 years ago, the word podcast was just brand new.

35:22Brand new. I wrote my first book. My publisher said you should do a podcast. And I said, what's a podcast? And actually I had the fortunate, fortunately what happened was I was invited to Apple and Cupertino to help me set this up. And back then it was using GarageBand. I just looked the other day because I wanted to get a good timestamp on the date. I believe it was March 7, 2007, that the first one was actually out. And I remember to this day how nervous I was with a microphone, this crappy microphone, with a garage band sitting in front of me, with a stack of notes and almost script for my first show because I didn't know if I could actually talk.

36:02Now, you stick me in front of a microphone, you can't shut me up. So that's a whole different thing. McClellan Oscillator, the structure. Recently, you talked about how there was a complex structure. I know this because I've followed your work, and I think I'm a relatively, I would say I'm an expert. I know a good amount of how you calculate. I've actually coded some stuff on my own systems utilizing what you've helped me with design. One of your recent reports talked about a complex, complex, not simple, a complex McClellan oscillator structure, and it was below zero. So tell me what that means from the aspect of what a complex versus simple and what below zero means.

36:45Well, it's tough to do charts on the radio or without, I didn't, and I didn't bring a chart to talk about it, but people can see a chart of the McClellan oscillator every day updated at our website at mcoscillator.com. The name of the website is just a contraction of McClellan oscillator, the indicator that my parents developed and became famous for. The McClellan oscillator measures the acceleration that's taking place in the advanced decline line. So if you have a positive McClellan oscillator reading, that means that it's accelerating upward at the moment. If it's negative, that means that it's accelerating downward at the moment.

37:18And people should understand that if you're in a downtrend and you level off, that's actually a positive acceleration because you're no longer going down. You're feeling the G-forces of the roller coaster hitting the bottom. That's a positive acceleration. So you can get positive acceleration showing up in the McClellan oscillator without yet getting price movement upward. The McClellan oscillator does interesting things when you look at the patterns. And this is what my parents wrote about in their 1970 book, Patterns for Profit. When you see the patterns in the oscillator that reveal things.

37:51And one of the most important of these patterns is what we call complex or simple structures. A simple structure is where the oscillator just goes straight up and straight down. on once on the above zero or it can be simple on the underneath the zero it just makes a spike a complex one is where you have a crossing of zero and then it chops around before it goes back the other way complex structure tells you that side is the side that is in charge because it has the ability to to do some chopping around before crossing back and going the other way so when you see a complex structure below zero the message is that the bears are in charge Now, they may lose being in charge.

38:32It may be third down and they fail to get a first down and so they have to punt. That may happen when you see a simple structure that tells you that side is not in charge. It's possible to have alternating simple structures on both sides where neither side is in charge. And I think we're going to see a lot of that this summer. something that you talked about getting the magnitudes different we have a we have a very quirky situation in terms of liquidity in the market where the new york stock exchange advanced decline line is making new highs but it's doing it very very quietly so when the advanced decline line is making new highs is making a statement that liquidity is plentiful but it's not gobs of plentiful it's just barely plentiful and we're not seeing the same thing in other indicators like high yield bonds, their advanced decline line is not making new highs.

39:21We're not seeing all the horses pulling together. So the NASDAQ is going down while the Dow is making new highs. And it's not a very altogether market. So we're in the second year of a presidential term when you're supposed to see a bear market. That's the very normal time. 2022 was a great example. It was a bear market year. 2026 is four years later. We're in the second year. You're supposed to see a bear market. And I think we're going to have one, but not a voracious one, just kind of a meandering, boring, we'll lose a little bit. So this is a great, this is a great summer to work on your novel and come back and be a buyer again in about mid-October.

40:02I love it. Because I don't think there's going to be a whole lot happening. And I'm sorry to come on your news show and say, well, there's not going to be much happening because that's really boring. You know, people tune into NASCAR to see the car crashes and the speeding cars. This is not going to be a car crashes and speeding cars kind of market. It's going to be a boring market where there's going to be opportunities for the nimble on a short-term basis, but most people are going to be frustrated between now and mid-October. There hasn't been anything that's really significantly boring about the market.

40:31There's a couple of days here and there. One of the things that's fascinating has been the rotation, that they're not allowing the market to go down. Clearly, algorithms that are taking control of things where they're pulling money out of some of the big names, throwing into the small caps, then they're rotating it back into the industrials and basically keeping everything semi-levitated for a period of time. One of the things that's interesting to look at with that is divergences. In particular, you talked about and recently wrote about the NASDAQ versus NVIDIA. And you pointed out that NVIDIA and the NASDAQ have started kind of like going in different directions and particularly, I guess, the NASDAQ 100.

41:10So, but why is that important? Well, it's important now because it's been important before. And this is a different way of looking at divergences. You're talking about a chart that I've showed where I compare the share price action in NVIDIA versus the NASDAQ 100. Most of the time, as you would expect, those two do exactly the same thing because NVIDIA is the number one largest component of the NASDAQ 100, or perhaps I should call it the NASDAQ 101 since now they've added SpaceX, but they didn't take anything out. So we have 101 companies in the NASDAQ 100. So it's really the NASDAQ 101. When you see them doing the same thing together, that's the normal condition.

41:51What we've seen just recently is that NVIDIA stock peaked before the NASDAQ 100 index and it started going down. When we have seen that in the past, that's been a bad sign for the overall NASDAQ market. And sure enough, we're getting it. NVIDIA was right. And the NASDAQ has turned sideways and is chopping its way a little bit lower. So that divergence that NVIDIA was showing has borne out, not in terms of bringing a crash or a horrific decline, but in terms of the uptrend stopping and turning weak. This is a different kind of divergence, though, because normally when we look at divergences in the advanced decline line or junk bonds or something, we're looking at the behavior of the strong versus the weak.

42:34where if the weak start falling by the roadside, then eventually the liquidity drying up is going to affect the big stocks. This is backwards from that. This is looking at the biggest of the big stocks in NVIDIA, and it starts to act weak. So that's a different way of doing it, which bothers me a little bit to do it differently, but it works. And so that's why I pay attention to it and shared it with my readers. So, you know, it's interesting because you mentioned something a moment ago. You mentioned two things. You mentioned maybe a down cycle, and you mentioned choppiness. And I probably should have brought this up when we talked about Fosbac and when we talked about the volatility and we talked about the advanced decline line.

43:10But you highlighted that the S &P 500 choppiness index has reached multi-decade lows. First of all, what exactly does that measure and what does that tell us? Well, that was an analysis from about a month ago, if I remember correctly. And it shared it in my Chart & Focus article. I read it. The choppiness index was created by an Australian commodities trader named E.W. Drees. And he was doing something similar to what Fosbeck was doing with absolute breadth. He wanted an indicator that could depict how choppy or linear price movements have been recently, irrespective of which direction. So if you have a very low choppiness index, that means that you have been in a very linear trend for the lookback period.

44:00And he liked to use 14 trading days, and I find that works really well. A low choppiness index reading tells you you're due to end that trend because you've been trending for too long. Similarly, a high choppiness index reading means you have been too choppy and trendless for long enough that a new trend direction ought to develop in one direction or the other. It won't tell you in which direction that new trend is going to go. You just need to look at your MACD or your price oscillators or whatever you look at to get indications of trend change and be ready for it. The high choppiness index reading is telling you, get ready for a trend to break out in one direction or the other.

44:42What we were seeing a month ago was a super linear trend coming out of the March 30th low in the S &P 500. I mean, there was just no texture to that uptrend at all. It was a straight line, which resulted in the lowest choppiness index reading in the data that I have going back about three decades. I mean, you can go back farther than that, but what's the point? It's saying, oh, my gosh, this is super linear. And thus, we are due for a nonlinear period for prices. And that's kind of what we're going through. So at the 40 years of analyzing markets, of all the things we've talked about, what is the most, in your opinion, the most reliable indicator that you currently follow that most of the other players on various financial networks and all that don't even have a desire to even look at or don't even know to look at?

45:37Is it one thing that's your go-to right now after all these years? And you're going to ask me which of my children I love the most? Yes. I'm giving you a Sophie's Choice right now. I'm going to tell you something. I'm going to answer the way my friend Steve Todd answered it. Steve Todd has been a stock market analyst for many years, writes the Todd Market Forecast, speaks with a deep Southern Alabama accent. He says, there's a lot of indicators out there. They're all good ones and I like them and I like to use them. But when it comes down to it, I like to just look at a plain old bar chart. And I ask the chart, is you is or is you ain't in an uptrend?

46:14And so looking at the price matters because what price does is going to determine whether you make money on the trade. Indicators are just a representation of that. And I'm a big indicators guy and I'm a big mathematical guy, but you really still have to bring it back to the bar chart and see what it's doing. Yep. So, you know, over time, there's, you know, all these different indicators and all these things that you look at, right? So is there something you have found that more recently that you could say are really things that I want to look at and that's what I'm focusing on? The other things are not working.

46:51And let me just back this up by saying one other thing. For many years on a particular channel that deals with financial news, the people in there for some reason got their hands around the RSI index, right? This RSI, Relative Strength Index, that's a charting mechanism to show where it is compared to where it was and what it's been. Like, is this moving more than it's moved before? Doesn't really, that particular index doesn't put it against anything else. Here's my question to you is, I don't know, why would they use something like that? You know, new traders always use MACD, moving average, conversion, divergence.

47:27They find that to be fascinating, right? That particular thing, because they get a signal. What's with the RSI? And is that something that is just because they're just used to it? They're just comfortable with it? Well, RSI was created by Wells Wilder. Great indicator. You have to learn how to interpret it though, because you can't just take the number and say, oh, it's a 70, therefore I need to do this. That's the number, by the way. Tom just gave you the number that everybody looks like, over 70, under 70, whatever. That's the number. Or under 30, yeah. But you can't just look at the number and know what to do.

48:01You've got to look at the chart because whether it's making higher highs or making divergent lower highs, that matters. Whether it's making a divergent low, that matters. Yes, it can show overbought and oversold, but that doesn't mean that the market has to react to that right away. So it has information. It's a great indicator, but it's not everything all at once. And so TV people like to fall in love with the perfect indicator. They like to say, oh, I'm just going to look at one thing because that makes life easy. Much easier. If it was easy, everybody would be millionaires. RSI is moving above and it's the best it's been.

48:36Two things they talk about, PE and RSI, both of those are in a vacuum, by the way. Both of those stand on their own and doesn't tell you anything about anything relative to anything else. It's just about that stock. And it's kind of funny that they don't use peg and something else, let's say. All right, let's talk about something else and kind of close on this. When you look at all the indicators today, the breadth, the sentiment, cycles, issues with liquidity, we talked about smooth and choppiness, demographic, seasonality. what is, what is the, if you, if you could culminate all that together, what is that, what message is being sent right now?

49:19Well, one of the messages is that the Fed's thumb is still on the scale. Yeah. They are, we are in QE5 right now. We are in the fifth round of doing QE. They started this back in 2009 and it worked great until they stopped it. And then it worked horribly. And then they started it again. And every time they run into trouble, they go back to the QE. Kevin Warsh, the new Fed chairman, has said he does not like the Fed having such a large balance sheet like it has now. But he hasn't said what he's going to do about that. Right now, they're still doing QE at a rate of about$30 billion a month. That's$30 billion is a lot of money.

50:00It's not$1 trillion a month like they were doing during COVID back in 2020. money. In fact, you know, one of the phrases I hate people talk about, the easy money has been made. There's only been one time in my 31 years of doing this newsletter that there was easy money. And that was in 2020 when the Fed announced it was doing a trillion dollars in QE. I went leveraged long the NASDAQ. When the Fed is throwing that much money at the problem, close your eyes and buy whatever you can and borrow money against everything to buy. And it was a great year. They're not doing a trillion a month. They're doing 30 billion a month.

50:36That's still pushing the balance sheet up. It's still pushing liquidity into the market. It's smoothing over a lot of the flaws that the market might otherwise have. It's smoothing over a lot of the cycles. When the Fed announces that it's going to stop that, that's a problem. If the Fed announces it's going to go to quantitative tightening, that's a problem for the stock market. I need to emphasize. I like to see if that's good. They're not going to call it quantitative tightening, first of all, because they won't say that, right? They'll talk about something. Let's say balance sheet readjustment or something.

51:07Yeah, we're just going through a readjustment cycle right now and just something that we put up for a while that we need to do. They'll figure out a way because they don't want to disrupt the markets. That's the problem. The Fed has become so involved in the markets, whatever that means. And they have to. They had, let's be, Tom, honestly, they have so much debt outstanding that any misstep, like what happened in 2022, by the way, where they had to come in, where they had to come in and they had to go to the banks and they had to tell the banks, we will guarantee, we will buy the bonds on your books for the maturity, the terminal value of it.

51:41Don't worry, we're going to guarantee that. I mean, that's unbelievable. And that is where they're worried about happening, not to the degree from a negative interest rates to a positive interest rates, because that experiment failed miserably. And you can see what happened in Japan recently. The debt factors of what we have now on that, whereas people were paying us to hold debt, now we have to pay them for the same debt. I mean, they're not going to let that mistake happen again, but I guess - They'll find new and innovative ways to screw things up in a different way than the last mistake. I love it.

52:12I love it. Tom McClellan, appreciate you coming aboard, being on the show, and good luck with the new puppy and all the things you're doing. Keep up the great work with that. And say hi to your dad for me. I will do that. All right, thanks so much. That's going to wrap it for this episode. I want to make sure we're clear on what we talked about at the beginning and make sure that sticks really well. I want that implanted right in the frontal part of your brain, your mind, and when you're thinking. It's all about the fees and the structure. And really, are you making sure that that component of your portfolio is set well?

52:42Because if it's not, it's going to be an invisible abrasive inside of your portfolio that's going to be chipping away at returns every single year, every single five years, 10 years, decades, moving into the future. And you know what? You're just going to be paying what you shouldn't be paying. That's why we, again, spend an extraordinary amount of time, an incredible amount of time, looking at the fee structures of the investments inside your portfolio to look at the net returns not only after risk, but after the fees as well. Because, you know, you're not going to get around it. There are expenses when it comes to investing.

53:18That's good. That's fine. There's no problem. You're going to cut your hair. You're going to pay the barber. You're going to go out to a restaurant. You're going to pay the owner. You're going to buy a car. You're going to pay the manufacturer. It's what it is. It's the cost of doing things. But you know what? Nobody said you have to pay too much. Don't be that sucker. If you need help, we're here for that. Make sure to listen each and every week. Next week coming up is Brian Shannon, the great Brian Shannon, who says and is known as only price pays. Technical analysis at its best. Thanks for joining me this week.

53:51I'll see you again real soon.

53:58This podcast is intended for informational purposes only and does not constitute personalized investment advice. Investing involves risk, including the possible loss of principal and past performance is not indicative of future results. The views and opinions expressed are those of the host and any guests and may not necessarily reflect those of Horowitz and Company Inc., an investment advisor registered with the U.S. Securities and Exchange Commission. Registration with the SEC does not imply a certain level of training or skill. Advisory services are only offered to a client or prospective clients where Horowitz and Company is properly registered or is excluded from registration requirements.

54:36Any mention of third-party companies, products, or services is provided for informational purposes only and does not constitute an endorsement. Hypothetical scenarios or forward-looking statements are for illustrated purposes and should not be viewed as guarantees. Content is intended for U.S. residents only and may not be applicable in other jurisdictions. Listeners should consult a qualified financial advisor before making any investment decisions. Please visit our website for additional information, disclosures, as well as a copy of our form CRS. Advertisements are not related to the host or affiliates and are not considered recommendations by the host of the show or any affiliates.

55:27We'll be right back.