Mid Week Pit Stop #9

The Hindenburg Omen

I will be quoting and doing some cut and paste from various websites. Alternatively, you can read from wikipedia.

Intro

The Hindenburg Omen is a signal that attempts to predict a forthcoming stock market crash. It is named after the Hindenburg disaster, the crash of the German Zeppelin of the same name in May 1937. The Hindenburg Omen is the alignment of several technical factors that measure the underlying condition of the stock market - specifically the NYSE (New York Stock Exchange) - such that the probability that a stock market crash occurs is higher than normal, and the probability of a severe decline is quite high.

Rationale

The rationale behind the indicator is that, under normal conditions, either a substantial number of stocks establish new annual highs or a large number set new lows - but not both. When both new highs and new lows are large, it indicates the stock market is undergoing a period of extreme divergence. Such divergence is not usually conductive to future rising prices. A healthy market requires some degree of internal uniformity, whether the direction of that uniformity is up or down.

Criteria

1. That the daily number of NYSE new 52 Week Highs and the daily number of new 52 Week Lows must both be greater than 2.2 percent of total NYSE issues traded that day.

2. That the smaller of these numbers is greater than 75. (this is not a rule but a function of the 2.2% of the total issues)

3. That the NYSE 10 Week moving average is rising.

4. That the McClellan Oscillator is negative on that same day.

5. That new 52 Week Highs cannot be more than twice the new 52 Week Lows (however it is fine for new 52 Week Lows to be more than double new 52 Week Highs). This condition is absolutely mandatory.

These measures are calculated each evening using Wall Street Journal figures for consistency. The occurrence of all five criteria on one day is often referred to as an unconfirmed Hindenburg Omen. A confirmed Hindenburg Omen occurs if a second (or more) Hindenburg Omen signals occur during a 36-day period from the first signal.

"For those who are interested in understanding the development of this Indicator, I suggest you Google using Hindenburg Omen and then select the following article, which is the second one down on the list: “Safe Haven - The Past Performance of the Hindenburg Omen Stock Market Crash Signals 1985 -2005”."

What's so great about the Hindenburg?

Consider this......

“The probability of an S&P 500 move greater than 5% to the downside after a confirmed Hindenburg Omen within the next 41 days after its occurrence is 77%, the probability of a panic sellout is 41% and the probability of a real big stock market crash is 25%.The occurrence of a confirmed Hindenburg Omen does not necessarily mean that the stock market will go down. On the other hand there has never been a significant stock market decline in history that was not preceded by a confirmed Hindenburg Omen.”

Personal Experience

Well, I'm only 21 years old, so I have not gone through many crashes or sharp corrections. So far, I have seen 2 Hindenburg omen signals and 2 major corrections.

1. The start of the sub-prime problem where Bear Sterns announced that they are closing down two hedge fund. The confirmed signal came on 22nd June 2007 and the correction period was from 13 July to 13 Aug. DJI was down about 10%; STI and HSI were down 18% and 13% respectively.

2. When my team came together, we were dead bearish about everything. But we were bearish too early. Instead of tackling the market during late October, we went in too early and were burnt easily. The cluster of Hindenburn Omen signals triggered during the 15 Oct to 19Oct. The correction lasted for three months though. From Nov to 21th Jan 2007, where Big Ben announced an emergency rate cut and it sort of ended the correction. The market trended sideway afterwards.

Well if you take the peak of HSI to the bottom of HSI on 21 Jan (not to take into the account that HSI was down to 21000 in March), HSI was down 10000 points or approximately 30%. STI was down from 3800 to 2900 as well.

Conclusion

According to my own research, we have three Hindenburg Omen so far. They occurred on 6th, 16th and 17th of June. So, if you believe in me, sell everything that you are holding right now or at least hedge some of your position by buying some put options.

The signs are there. You have a weak oil (at least it drops), strong goldman report and yet the market sells into rally.

Side Commentary

In addition to last week's criticism about "experts", look at this.

"Speaking of Lehman, you wonder why analysts drive me crazy? How about Guy Moszkowski at Merrill Lynch? The banking analyst downgraded Lehman when it was about $24 on Wednesday and upgraded it when it was about $33 in the beginning of June. So what happens? It is closing today at $27 and change; that call was the short-term bottom. " Quote From Bob Pisani on cnbc.com.

If you have not covered your Lehman, just hold on to it. We have an Hindenburg omen confirmed =D. You can actually get Lehman at $26 on monday. Nonetheless, I think I have read the Lehman situation correctly.

Broke $35 support -> plunged like a dog -> exit of executives (end of cycle) -> short covering -> SWEET~.

Oil was not acting according to plan. In retrospect, I should have considered more about the scenario where dollar would fall slighty and oil would face the resistance of $140 again. If you short on monday which I told you to, you will probably get a heart attack for a while (lol) but feeling alright with oil standing below $134. Cover the position and hold on your money while we prepare to short this market soon.


I never hesitate to tell a man that I am bullish or bearish. But I do not tell people to buy or sell any particular stock. In a bear market all stocks go down and in a bull market they go up.

Jesse Livermore