Yesterday (Tuesday, March 3, 2010) was a great day for the keen eye paying attention to market divergences. As U.S. equities started rallying on a Greek austerity plan and (bad but ‘distorted’) ADP jobs number (due to the snow, really?), market internals started to diverge early in the morning. While the S&P 500 hit an intraday high at the 11 AM hourly candle, the NYSE Tick, Advance Volume, and Breadth all formed bearish divergences. On top of that, Yen futures also reached an intraday high at the same that the equities were rallying.
In a general sense, rallying equities and a surging Japanese Yen creates a concern because the first indicates risk-appetite while the latter indicates risk-aversion. In these situations, one of the markets is usually “lying”. If you looked at the equities indicators (Tick, Volume, Breadth,etc.) you would have noticed that the S&P 500 was the guilty one.
Given that the riskier currencies such as the Euro, Australian dollar, or Pound Sterling tend to have a high correlation with the S&P 500 during market hours, all these divergences would have signaled a sell order in these pairs (dollar crosses preferably). I sold the EUR/USD at 1.3725 after noticing these divergences. Why not at 1.3750? Well, markets can still stretch out on divergences. As a result, I waited for the reversal candle to establish a potential retracement.
All in all, it is key to watch out for market divergences, especially when markets are moving strongly in one direction on lackluster data (in this case, sub-par jobs data & bad Pending Home Sales).
Here is the graphical illustration:
Click on image for full-sized chart.
Be on the lookout!
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