The Key Signals of a Tiring Market

A successful self trader – Rule # 47

A tiring market is when the domination is gradually slipping out of the hands of the bulls. A tiring market is a signal to cut long positions and also a signal to initiate short positions in the market. Just as a lackluster market indicates a grinding bottom, similarly a tiring market indicates a grinding top. You must know the 6 signals that can confirm that the market is tiring and the tide is turning.

How to tell if a market is tiring

A tiring market is a market that is losing momentum. One needs to understand that a tiring market is not the same as a bear market. A bear market signifies negative sentiments in the market. A tiring market need not necessarily mean a bear market. It just means that the bulls are not enthusiastic any longer and see no reasons to buy. This is the start of a fall.

A secular bull market may consist of a series of instances of markets tiring. From 2001, when the equity markets bottomed out, there were instances of the market tiring out in April 2003, May 2004, September 2005 and June 2006 before the prolonged bear phase began in January 2008. Each time the market tires, it is an opportunity to churn your portfolio profitably.

From the time the Nifty bottomed out at around 2250 on October 27 2008, the market has appreciated four-fold by early 2015. But during this period there have been several cases of deep cuts in the Nifty, after the markets started tiring out. October 2009, November 2010, December 2011 and January 2013 were all classic instances of markets tiring out!

3 Technical signs of a tiring market 

Look at the volume trend in the market

This is the simplest indicator of a tiring market. A market moving higher and higher on lower and lower volumes is surely tiring. If the rise is restricted to very few stocks, it only corroborates that the market is tiring.

Look at the moving average convergence divergence

If the Nifty and the Sensex are making higher highs but the momentum indicators are making lower lows, it is also a clear sign that bulls are tiring out. This provides the first indication for unwinding longs and shorting! 

Compare 50-DMA with 200-DMA

This indicates how broad-based the market is. If number of stocks above 50-DMA is rising but number of stocks above 200-DMA is falling, it is another classic signal of a market that is tiring at higher levels. Watch out!

Stock market bubbles do not grow out of thin air. They have a solid basis in reality” – George Soros

6 Fundamental characteristics of a tiring market

  1. Mega IPOs are signs of a tiring market. Sounds ironic but true! In India every mega IPO has been followed by the markets tiring out due to liquidity getting sucked out. Classic examples: ONGC in 2004, Reliance Petro in 2006, Reliance Power in 2008 and Coal India in 2010. Be cautious of a deluge of IPOs.
  1. A/D ratio is negative and falling. This is a classic give away and gauges broad-based participation in the market. A declining A/D shows that more stocks are showing daily negative movements compared to positive movements. This is normally an early warning signal of a tiring market, especially if it gets pronounced.
  1. Tepid response to good news and over-reaction to bad news is another key indicator. This is visible when the bulls are tiring. Most traders and investors find the risk in stocks too high to buy even on the back of positive news flows. This indicates that the drivers of the rally are fading. Exit time!
  1. Interest rates do not have much lower to go. This means that the only way rates can move is higher. And rising interest rates is the biggest enemy of bull markets. You can close your eyes and predict a minimum 15% correction in broad markets, as interest rates begin to rise. We have surely seen that before.
  1. The interplay in portfolios of retail and institutional investors is also a very key indicator. Closer to the end of a bull market, you will find institutions moving out of cyclical stocks and into defensives and retail moving out of defensives into cyclical stocks. This is visible as bull markets tire.
  1. Value is increasingly hard to find. This is a very subtle indicator and one needs to delve deeper to understand this trend. Institutional investors typically look at the margin of safety. They start finding the risk-reward ratio of investing negative at these levels, while retail throng to IPOs, rights etc…

Tiring market is not a bear market

One needs to understand the subtle difference between a tiring market and a bear market. A bear market typically loses close to 50-60% from its peak and the collateral damage to bubble leaders can be as high as 90%. Cement in 1992, Tech in 2000 and Real estate in 2008 are examples. But any bull rally has a series of tiring markets, which happen because of an inter-play of valuations and liquidity. But why are they important?

One needs to remember that a 15% correction or tiring in the market is an opportunity to restructure your portfolio. You need to exit stocks that caused the rally and enter stocks that are ripe for the next phase of price discovery. For the more aggressive traders this is also an opportunity to play the market on the short side. A tiring market has a time span of around 3-4 months when the market moves from a buy-on-dips to a sell-on-rises. This is the time for a seller to make hay!

Takeaways from the “Tiring Market” debate

When the institutions are disinterested and the retail investors are over-enthusiastic it is a classic indicator of a tiring market. This is actually true. At the peak you will find the retail and small investors extremely enthusiastic. This is the time when obviously the man on the street has made money by blind punting. That is the top!

As David Einhorn put it eloquently, “Stock market trading, like poker, is a game of incomplete information. You have a certain set of facts and you are looking for situations that give you an edge.” Calling the top of a tiring market is a similar exercise. The technical and fundamental indicators give a fairly good idea of a tiring market. It’s yours for the taking!

You can ask us your stock related questions with #AskReligareOnMarkets via our Twitter channel @religareonline

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