The Cabot Indicator for Determining the Health of the Stock Market Every Day
Of all the numbers generated by the stock market, there is one number we look at every day. The smaller that number the more we like it, and it takes us only two seconds to check it. That’s why we call it the Cabot Two-Second Indicator!
To use it, all you have to do is find (in your newspaper or online) the number of stocks on the NYSE that hit new 52-week price lows on the previous day. This single number, when properly interpreted, will give you a very good idea of the health of the current stock market.
Is this indicator perfect? No. No timing indicator is infallible. Nevertheless, this one is so effective—and so simple—that in the decade-plus since we developed it, it’s become one of the indicators we show in every issue of Cabot Growth Investor.
Note: We developed this indicator by taking a fresh look at the number of daily new highs and the number of daily new lows on the NYSE and their correlation with the market itself. And while we found no great use for the new-high data, beyond the useful new-high/new-low ratio, we did find a very useful relationship between the market itself and the daily new lows.
For three years, we studied reams of data covering every day’s trading activity. The data we reviewed went back as far as the beginning of 1962 … covering all of the bull markets, the bear markets and the do-nothing markets during that time period.
Here’s what we found: As long as the number of daily new lows did not exceed 40, the market was sound and in no danger of falling significantly. And remarkably, this specific threshold of 40 new lows remained the same over the entire 50 years we studied.
Briefly, here are the advantages of this indicator:
1. It is a daily reading of what the market itself is doing.
2. It is an extremely broad-based indicator in that it tallies the results of the entire NYSE.
3. Using our guidelines, you get a simple, unbiased reading of the health of the market every day.
Nothing is black and white. There is a judgment factor involved in the interpretation of this indicator. But it is not complicated. Success comes from watching this indicator and interpreting its reading for the previous day in the context of the actions of the entire market.
These studies prove to be particularly helpful during normal markets and at market tops. And at market bottoms, this indicator can help you identify the reduced selling that takes place before the next major market advance.