Technical Analysis of the Financial Markets [PDF]

Summary
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Technical Analysis of the Financial Markets – Book

AD DIVERGENCE:

What does the advance-decline line measure? The advance-decline line tells us whether or not the broader universe of 3500 NYSE stocks is advancing in line with the most widely followed stock averages, which include only the 30 Dow Industrials or the S00 stocks in S&P 500. To paraphrase a Wall Street maxim: the advance-decline line tells us if the “troops” are keeping up with the “generals.”

As long as the AD line is advancing with the Dow Industrials, for example, the breadth of health of the market is good. The danger appears when the AD line begins to diverge from the Dow. In other words, when you have a situation where the Dow Industrials are hitting new highs while the broader market (measured by the AD line) isn’t following, technicians begin to worry about “bad market breadth” or an AD divergence. Historically, the AD line peaks out well ahead of the market averages, which is why it’s watched so closely.

DAILY VERSUS WEEKLY AD LINES:

The daily AD line, which we have described herein, is better used for short to intermediate comparisons with the major stock averages. It is less useful for comparisons going back several years. A weekly advance-decline line measures the number of advancing versus declining stocks for the entire week. Those figures are published in Barron’s every weekend.

A weekly advance-decline line is considered more useful for trend comparisons spanning several years. While a negative divergence in the daily AD line may warn of short to intermediate problems in the market, it’s necessary to also show a similar divergence in the weekly AD line to confirm that a more serious problem is developing. sis