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bell curves

Over-Bought and Over-Sold Conditions

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(Initially) I began writing this post when the Dow Jones was down 300 points on January 30, 2018.   The previous day (January 29th), the Dow was down 177 points.

Through January 30, 2018, the Dow Jones had not seen a 1% drop in 111 days, one of the longest runs in history.  I remarked “as investors, we have been spoiled, because the market has not had a 5% or greater drop since the middle of 2016 (at that point, that was eighteen months past).  Even a 500 point drop (between yesterday and this morning) adds up to roughly a 2% drop.

Additionally, Tim had been reporting in our daily meetings how remarkably over-bought the markets became.  It’s hard to recall seeing a market get this skewed to the over-bought side.

The focus of this piece is to show (visually) how over-bought and over-sold markets can work themselves to extremes.  With the help of Dorsey Wright, and their “distribution curve” we will be able to visualize how markets can move to extremes.

One of the points I’ve learned is without volatility in both directions, markets can reach over-bought or over-sold conditions quickly.  Having some degree of volatility “against the trend” tends to help keep markets in “neutral territory” – providing opportunities for investors to buy and sell.

Most of this can be understood by looking at different classes of the market plotted on a bell-curve, as Dorsey Wright does very well.  When an area (or asset class) of the market gets skewed to the right side, it is said to be over-bought.  Skewed to the left side, over-sold.  Most of the time (roughly two-thirds) results for most bell curves seem to fall in the center – or to the immediate left or right of the center.  It’s the remaining one-third of the time where markets can get outside the normal areas of the bell-curve and become skewed to the left or right, over-sold and over-bought.

Here is a normal looking distribution curve, below.  This is from September 2016. Notice how most of the different classes are centered around the middle?   As prices get stretched in either direction, asset classes will begin to skew toward the over-bought or over-sold side of the picture.

distribution curve

Below I have taken that same distribution curve from September 2016 and crudely hand-drawn in a red bell-curve.  This is to help give you an idea of where things fell in September 2016.  I have also highlighted the area  (in yellow) showing a “normal distribution” – some assets appear over-bought, some assets appear over-sold.  But no asset class reaching any kinds of extremes.

2 12 2018 2 36 00 PM

By contrast, here (below) was the distribution curve on January 29, 2018.  Most equity-oriented asset classes (domestic and international) were skewed FAR to the right, indicating massively over-bought conditions.  If you believe it’s wise to buy equities (stocks) at the right price, this was the time to put your “equity shopping list” away.

edited Jan 30, 2018 Distribution

In fact, most of the symbols skewed toward the middle of the curve, and to the left were left out of the “equity rally” seen the last few months.  Some of those symbols in the center and toward the over-sold side (above) include the US Dollar, and many bond investments.  As rates began to rise the last few months, these asset classes began stretching to some over-sold levels.

What happened the next few trading days following January 29-30, 2018 was very enlightening.  Stocks (not only in the US, but around the globe) sold off.  There are two ways an “over-bought” condition can be resolved:

  1. The market can simply go down.
  2. The market can “stall” and trade in place over a period of a few weeks, or months.

Without revisiting the gory details, markets sold off violently.  Most US-based indices were down (approximately 10%).  Now, here is what the very same distribution curve looked like on Friday February 9, 2018.  This is just eight trading days later:

2 12 2018 2 50 32 PM

For the record, these kinds of immediate swings from over-bought to over-sold do not typically happen.

What was left in the middle of the bell-curve?  Commodity investments like crude oil, gold and other commodity-related indices.  What has skewed toward the over-sold side of the bell curve?  Nearly all of the equity-related assets (which were previously over-bought).  But also look: bonds, fixed income investments and the US Dollar remain over-sold.  Interesting.

Markets reach over-bought and over-sold levels many times, and markets correct themselves — often without folks even being aware of the underlying conditions.

Our friends at Dorsey Wright & Associates remind us the market typically generates a 5% pullback between three and four times a year on average, and the market also averages one 10% pullback per year, over now nearly 100 years, dating back to the 1920’s.

What we missed in 2017 was volatility.  We had one of the “quietest” years in recent history: very few big sustained drops, and not a single 5% drop at all during the entire calendar year.  It’s normal to expect some volatility, and I suspect we will see “our old friend” volatility return to the markets in 2018.

Bell Curves: How They Are Used in Point & Figure Charting

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Bell curves are an integral part of point & figure charting, and Tom and Brendan will discuss why in this video. As promised in our previous podcast, you will be able to view some visual examples of charts in this week’s video. Tom will talk you through the charts and help make all the X’s and O’s make sense.

Bell curves should not be a totally new concept to you, but you probably haven’t used one since high school or early college! The basic concept of a bell curve becomes much more difficult to comprehend when it is applied to a point & figure chart. Point & figure charts are a main source of how money is managed at Mullooly Asset Management. Tom will show how the bell curves are applied to point & figure charts to obtain this useful information.

With bell curves, chances are that things will fall between the middle band of the curve. What needs to be monitored is when an extreme situation arises, which is when we leave the middle of the band and stray to either side. This signifies one of two things, we are over-bought or over-sold. Over-sold means that many people have been selling a stock, and the selling continued to a point where it broke through a support line and bottomed out. Over-bought means a stock has been purchased by many people and is reaching a peak in its price, which will typically end with a regression.

If this all sounds like a foreign language to you, don’t worry! In the video Brendan and Tom will go over everything with great visual examples. The examples really make these concepts easier to grasp.

Check out this week’s Mullooly Asset Management video and learn all about bell curves and their use in point & figure charting.

Bell Curves: What is Their Purpose in Point and Figure Charting?

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This is a transcription from the November 21, 2012 Mullooly Asset Management podcast.

Brendan: Hello and welcome to the Mullooly Asset Management podcast for November 21, 2012. This is Brendan and today Tom and I are going to talk about using point and figure charts and bell curves.

So I never really thought that I’d be seeing bell curves again after high school, but here we are. So let’s refresh real quick and talk about bell curve concept a little bit.

Tom: Okay. The concept of a bell curve is really pretty simple. You’ve got that curvy part in the middle and two extremes on the right and the left. The whole idea behind a bell curve is to find out where your data is normally sitting. And I’m going to show you some examples of what that looks like when we’re using point and figure charts.

But the important thing to remember with bell curves is that you’re going to find most of your data is going to be between 1 and 2 standard deviations to the right or 1 or 2 standard deviations to the left of the middle of the bell curve. And so most of your stuff, most of the time you’re going to find sitting right around that middle of the bell curve.

Brendan: Right. So let’s get into what makes bell curves so important to our investing strategy here at Mullooly Asset Management.

Tom: Okay. One of the things you’ve got to know with these bell curves, like we said, that most of the time you’re going to find your chart for a mutual fund or a commodity or a stock or whatever, is going to be hanging around the middle of the curve. In fact, two-thirds of the time, your chart is going to be sitting right around the middle of the bell curve. It’s not over-bought and it’s not over-sold. But what happens is, every now and then, we get these situations where a stock or a mutual fund or some crazy commodity like gold or silver, will get extremely over-bought or extremely over-sold. And that’s really important to know that, you know, that over-bought and over-sold conditions do exist and we’re going to talk about some examples where you just want to make sure that you’re not doing something stupid and buying high or selling at the exact bottom.

Brendan: Definitely makes sense.

Tom: So here’s an example of a bell curve, like we were talking about, you can see how most of the data is centered around the middle of the curve, but you do have these extreme situations where when you get skewed out to the right, you’re in an over-bought condition, a stock, for example, has gone way high and people start calling me saying, “Gee, don’t you think we ought to buy some of that stock?” And I keep telling people, we got to wait Understanding Bell Curvesfor a pull-back to the middle of the trading band.

On the flip side, you’ll see over on the left, when things get over-sold, a lot of times when selling begins, a panic erupts and people start selling for no good reason and you get this over-sold condition. And so, on the flip side, people say, “Hey, you know, maybe it’s time we get out of that stock,” and I tell them, “Yes, but it’s over-sold right now and we need to pull back to the middle of the trading band to get a better exit point for us.”

Now this is a picture of a bell curve laying flat. Let’s just flip this a little bit and it’ll give you a better idea. So if we were looking at a chart, when we get to the top of the trading band and if you’re a client of mine, you’ve heard me say that before, that phrase, top of the trading band. When you get to the top of the trading band, you want to stop chasing it. It doesn’t necessarily mean you want to sell it, unless you’re a really active trader. But when you get an over-bought condition like that, it’s best to just stop buying and move on to another chart. Wait for this chart to come back to the middle of the band.

Likewise, if you’re thinking about selling something and it gets pushed way down and you get into an over-sold condition, you really want to wait, because, again, two-thirds of the time, things drift toward the middle of the trading band.

Brendan: Right. And we’re going to pull up some charts right now to get a little more in-depth on this.

Tom: Okay. Here’s a chart that’s got not only an over-bought condition, but an over-sold condition as well, and you can see right at the top of the picture how it got to the top of the trading band right above that number 9, and that 9 stands for September. And so we had a huge run up there in August and September where the stock went from the middle of the trading band to the top and then not only did it correct to the middle of the trading band, but it went all the way past the bottom of the trading band, in fact, when it became 110% over-sold, now we were due for a bounce back to the middle. And now you can see this stock is starting to drift back towards the middle of the band.

Brendan: Right.

Tom: This is a little more typical of an example. You see a stock that was trading above the middle of the trading band, started to come down, that B represents November and once we hit the bottom of the trading band, we, I hate to use the phrase “automatic,” but, you know, these things happen a lot, where a chart goes down to the bottom of the trading band and we start to see that drift back toward the middle of the band. And so we see these things quite a bit.

Brendan: Right. Now, does something being over-bought or over-sold affect the technical story?

Tom: It doesn’t always change the technical story. We use them more for entry and exit points. You know, a lot of times, like I had mentioned earlier, clients will call when they see a stock going up for a few days or a few weeks and there’s talk about it on the news or in the papers about it and people will say, “Gee, don’t you think we ought to buy some?” And I’ll tell them, “You know, it’s already at the top of the— ”

Brendan: At that point, it’s too late.

Tom: Exactly. It’s at the top of the trading band, and so we’re either going to have to just watch that one or we’re going to have to wait for it to pull back to the trading band. On the flip side, on the exit side, if we’re looking for an exit, you know, yeah, we may want to get out of something because the story’s falling apart, but we’ll usually, if something’s had a huge down draft, a lot of times within the next few days or weeks, we’ll get a better price to exit.

The main thing, Brendan, I think we want to remind everybody, that it doesn’t really change the overall technical story. We could have a stock that’s moved from a positive trend to a negative trend. We could have a market that’s changed from offense to defense. We could have relative strength flipping from a buy signal to a sell signal. So there’s a lot of different technical factors that put the whole story together for us. The importance of the bell curve is really to give us a better entry or a better exit point.

Now, it’s important to know that whenever we mention a specific investment, whether it be a stock, a mutual fund, a commodity, or even an index, any time we mention these, it’s not a specific recommendation of Mullooly Asset Management and anything that we’ve mentioned in this video is not a recommendation to buy or sell any of the securities mentioned here.

So again, we say this every week, but if you’re relying on a podcast for investment advice, you’re probably making a huge mistake. And so we strongly urge our listeners to consult with their investment advisor before they make a decision to buy or sell any investment. If you don’t have an investment advisor, of course, you’re free to call us. You can find us on the web at Mullooly.net, that’s M-u-l-l-o-o-l-y.net, or you can call us at 732-223-9000.

Brendan: All right. That’s going to wrap up this week’s podcast, glad that we could talk about bell curves with everybody and we’ll see you all next week on the podcast. Thanks for listening.

Bell Curves and Point and Figure Charting

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In this week’s Mullooly Asset Management podcast Tom and Brendan discuss bell curves. Bell curves are something that most of you probably remember learning way back in high school, but this concept can be applied to point & figure charts. Bell curves can supply us with some very useful information when they are applied to point & figure charting. Tom will explain all of this in this week’s podcast.

Two thirds of the time things will lie in somewhere around the middle of the band in a bell curve. When things get crazy we can see extreme situations arise. This means two things, we can see something be over-bought or over-sold. Being over-bought means that something has been in such high demand that it has reached its peak, and it is likely due to regress back to the middle of the band at some point. On the flip side being over-sold typically means that some selling occurred and a panic occurred. The particular stock has probably broke through support lines and bottomed out entirely.

When we talk about something being over-bought or over-sold it doesn’t really affect the technical story. This means we use the bell curves with point & figure charts to find a point of “entry” or “exit”. It doesn’t affect the overall direction or trend of the market.

There is a lot to learn about bell curves and how they are used in point & figure charting! Tom walks through several in depth example charts as well, which you will be able to see in the upcoming video version of this podcast. Make sure you tune in and check out what Tom and Brendan have to say in this week’s podcast!

Please speak with an investment adviser before making ANY investment decisions. None of the securities mentioned in this podcast or blog post are considered investment advice. If you’re relying on a podcast or blog post for investment advice you are making a HUGE mistake. We strongly urge our listeners to consult with their investment adviser before they make a decision to buy or sell any investment.

You can download this and all other Mullooly Asset Management podcasts on the iTunes store for free!

This High School Concept Can Help You Invest Smarter

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It’s true: Understanding the Bell Curve Can Help Your 401(k)

I will stress again: there seem to be a LOT of people in the investment business who want to complicate the investment process. It does not need to be overly-complicated. A financial planner can help you invest smarter and give you 401-k advice.

This is part II of the lesson on bell-curves and how they can help you. Here you can find part one of Bell Curve Money Management.

With bell curves, about two-thirds of the time most of the results you are examining are hanging out somewhere near the middle of the bell curve. Yes, there are times when things get really skewed way over to the right, and times when “the curve” gets skewed way over to the left. So, here’s a clue:

On a bell curve, when the ENTIRE MARKET is skewed way over to the right, DO NOT BUY it. When we refer to the market as “over-bought,” this is what we are looking at.

And, when THE ENTIRE MARKET is skewed way over to the left side of the bell curve, you may want to think about investing. Why?
Because it is considered “over-sold.”

Watch this short video (part II) on the Bell Curve:

If you are relying on a blog post for specific investment advice, you are making a huge mistake. Please speak with an investment adviser before making ANY investment decisions.
If you do not have an investment adviser, we encourage you to contact Mullooly Asset Management at 732-223-9000, or through our website. Under no circumstances should the content discussed here to be considered specific investment advice.

I would also add the following: Past performance may not be indicative of future results. Therefore, no current or prospective client should assume that the future performance of any specific investment or investment strategy will be profitable or equal to past performance levels.

All investment strategies have the potential for profit or loss. Changes in investment strategies, contributions, or withdrawals may materially alter the performance of your portfolio. Different types of investments involve varying degrees of risk, and there can be no assurance that any specific investment will either be suitable or profitable for an investor’s portfolio.

A High School Idea Can Help You Make Better Investment Decisions

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It really IS true:

An Idea Learned in High School Can Actually Help You Make Better Investment Decisions

Yes, some of the concepts discussed way back in high school CAN make us better investors. You do not need to be a financial advisor to understand them either! But there seem to be a LOT of money managers in the investment business who want to complicate the investment process.

If you remember the concept of the bell curve from high school, employing HOW a bell curve works – could really help you become a better investor.

When it comes to bell curves, just remember, about two-thirds of the time most of the results you are examining are hanging out somewhere near the middle of the bell curve.  Yes, there are times when things get really skewed way over to the right, and times when “the curve” gets skewed way over to the left.   So, here’s a clue:

On a bell curve, when something is skewed way over to the right, DO NOT BUY it.  The item can be considered “over-bought.”

And, when is skewed way over to the left side of the bell curve, you may want to think about investing.  Why?  Because it is considered “over-sold.”

Have I lost you yet?   We need to focus on keeping investment concepts simple. That’s the name of the game for financial advisers.  Watch this short video and see what I mean:

If you are relying on a blog post for specific investment advice, you are making a huge mistake. Please speak with an investment adviser before making ANY investment decisions.
If you do not have an investment adviser, we encourage you to contact Mullooly Asset Management at 732-223-9000, or through our website. Under no circumstances should the content discussed here to be considered specific investment advice.

I would also add the following:  Past performance may not be indicative of future results. Therefore, no current or prospective client should assume that the future performance of any specific investment or investment strategy will be profitable or equal to past performance levels.

All investment strategies have the potential for profit or loss. Changes in investment strategies, contributions, or withdrawals may materially alter the performance of your portfolio. Different types of investments involve varying degrees of risk, and there can be no assurance that any specific investment will either be suitable or profitable for an investor’s portfolio.