For retail investors and traders, there are few tools more helpful than market breadth indicators.
These indicators can extend far beyond simply observing a stock’s price per share: They go deeper than that, working to determine the number of stocks closing higher relative to the ones that are closing lower in any given index or stock exchange. This observation of a stock’s positive or negative breadth can be a much stronger, much more reliable indication of whether to buy or sell than what merely monitoring price per share can show.
In effect, a positive market breadth happens when more stocks are closing higher than closing lower. When there’s positive market breadth, it suggests the market is experiencing a bullish momentum. This helps to confirm a rise in price on the index.
Alternatively, a negative market breadth suggests a bearish momentum and foreshadows a looming decrease in price on the index. These figures give retail investors and traders something that a simple price per share never could: a sense of how many hidden strengths or weaknesses there are in a particular stock or index.
One such market breadth indicator is the McClellan Oscillator. But what exactly is the McClellan Oscillator, and what does it measure? Not to mention, how do you use the McClellan Oscillator and does it even work in the first place?
What Is The McClellan Oscillator Indicator?
The McClellan Oscillator is an indicator of market breadth that is often used by financial analysts to observe the balance between the advancing and declining stocks.
The McClellan Oscillator makes its measurements by taking advantage of the lists released by financial publications. These publications take note of the number of stocks that closed higher and lower, also known as advances and declines. The difference between these two is what’s known as the daily breadth. With this in mind, the cumulative running total of daily breadth is called the Daily Advance-Decline Line.
This Daily Advance-Decline Line is an essential indicator because it correlates quite well with the way the stock market moves and it also gives investors a way to put real numbers to those market movements instead of just looking at prices per share.
On a McClellan Oscillator, a tick mark is used to represent a day’s worth of advances and declines. Once the daily breadth is determined at the close of the day, the data is smoothed with a unique equation known as an exponential moving average (or EMA).
When calculating, the EMA adds more weight to the most recent data and weights older data less and less in reverse chronological order. This is what’s known as the smoothing constant.
Two distinct EMAs are used in a McClellan Oscillator: one EMA with a 10-percent smoothing constant, also known as the 10-percent Trend and one EMA with a five-percent smoothing constant, also known as the five-percent trend.
It’s been this way since the 1960s when rocket scientist P.N. Haurlan first used EMAs to track the stock market. The difference in numbers between these two EMAs is, in effect, the value of the McClellan Oscillator.
What Does The McClellan Oscillator Measure?
The McClellan Oscillator can provide many different kinds of structures that can be used to make stock market observations, but two main functions come before all others:
- First, to track money coming into or leaving the market. When the McClellan Oscillator is positive, it shows how much money is coming into the market. On the other hand, when the McClellan Oscillator is negative, it shows how much money is leaving the market.
- Second, the McClellan Oscillator can also show when a stock is overbought or oversold. This happens when the McClellan Oscillator starts giving extreme readings.
A positive, increasing McClellan Oscillator shows that stocks are being snapped up. A negative, decreasing McClellan Oscillator shows that stocks are being sold off.
Either positive or negative, the McClellan Oscillator shows the current trend in the index more often than not. When the McClellan Oscillator switches from positive to negative or negative to positive, it’s a sign that the trend is likely to reverse.
When the McClellan Oscillator moves 100 points or more, either positive or negative, it’s called a breadth thrust.
When stock prices and the McClellan Oscillator move in opposite directions, then it’s a sign that the current trend is weak. For instance, when the McClellan Oscillator is rising and the index is falling, it’s a sign that the current trend could increase soon as stocks begin to be bought up. Likewise, when stock prices rise while the McClellan Oscillator falls, this is a sign that prices may start to decrease soon.
Just because these are the main two doesn’t mean they’re the only two, of course. In truth, the McClellan Oscillator can show all kinds of strong shifts. It can also help to determine the strength of an index’s trend through the tracking of divergence (or confirmation).
Last but not least, by totaling all the daily values of the McClellan Oscillator, investors can create an indicator called the McClellan Summation Index. (More on this later.)
All in all, the McClellan Oscillator measures the health of the stock market on the whole and assesses the strength or weakness of its current trends overall.
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How To Use The McClellan Oscillator
While it’s clear now what the McClellan Oscillator is and what it measures, it’s now worth explaining how exactly the McClellan Oscillator can be used by retail investors and traders. Thankfully, using the McClellan Oscillator is pretty easy.
The most popular option is to simply look at the color of the indicator and the direction it’s moving in. If the McClellan Oscillator is red and very low, it’s a signal that a buying opportunity may appear soon — this is a sign that the market is being oversold.
Of course, it’s important to remember that investors should wait until the McClellan Oscillator turns green and begins to rise higher before they make their purchase.
When looking for signals to sell, the inverse is true. When the stock enters overbought territory, the McClellan Oscillator will turn red and drop increasingly lower.
Another way for retail investors and traders to use the McClellan Oscillator is to combine its analysis with other kinds of indicators. When you do this, you can corroborate the figures reported by the McClellan Oscillator with the figures reported by other indicators — either to confirm its findings and make the purchase or sale or to observe the differences between the two and move forward accordingly. This is equivalent to getting a second or third opinion, in a way.
In short, yes: the McClellan Oscillator does work. That’s because the McClellan Oscillator leaves very little to chance.
By relying on hard facts — such as the number of stocks that closed higher (advances), the number of stocks that closed lower (declines), exponential moving averages and other numbers and figures sourced directly from the New York Stock Exchange and reputable financial publications — the McClellan Oscillator moves away from some of the more feeble forms of stock forecasting techniques to present something deeply rooted in definitive evidence.
It’s a long way off from looking at prices per share from the past and the present and making an educated guess as to where the stock might head in the future — it’s also factoring in things like the cumulative running total of daily breadth to make its signals.
Truth be told, this is why the McClellan Oscillator works exceptionally well when applied to short and intermediate-term trading. This has a lot to do with the fact that the McClellan Oscillator weighs the more recent data more heavily and treats the older data with less and less weight the further back you go.
This allows the McClellan Oscillator to convey the momentum that propels stocks and index trends upward or downward, which makes it a very useful tool for finding the ideal entry and exit points for traders.
It’s also important to remember that the McClellan Oscillator works even better when compared to other indicators — not only does this help to validate positive or negative trends, but it also helps to assess the strength of an index trend through either divergence or confirmation of said trend.
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Pitfalls Of the McClellan Oscillator
The biggest downside to the McClellan Oscillator is that it’s less effective when applied to day trading or other strategic forms of extremely short-term buying and selling.
The McClellan Oscillator is practically useless when applied to just a single day or two’s worth of financial data. That’s just not how it was designed to be used.
The McClellan Oscillator relies on medium and long-term trends to make its assessments and these assessments are going to be much less accurate when they don’t have the time or the space to build up enough financial data to paint an accurate portrait of the market breadth.
Because of this, the McClellan Oscillator occasionally finds itself subjected to unfair criticism when investors and traders find themselves disappointed in what they perceived to be a special signal from the McClellan Oscillator but are only looking at a few days’ worth of data.
The problem is that, when doing this, the McClellan Oscillator lacks the essential context it needs to make its most accurate calculations. Remember, the McClellan Oscillator needs both recent data and older data, both weighed uniquely, to accurately function as a market breadth indicator.
It’s also worth mentioning that the McClellan Oscillator also typically produces a great number of signals. Whether it be breadth thrusts, divergence, or crossovers, these indicators can all begin to occur at once on a McClellan Oscillator and it’s up to you to determine which of these signals you want to pay attention to.
After all, it needs to be said that not every one of these many signals will necessarily result in the price moving in one direction or another. The McClellan Oscillator tends to show false signals when there’s not enough data provided for accurate context, which only reinforces the argument that McClellan Oscillators should be used in conjunction with other technical indicators to increase accuracy.
All in all, it’s important to observe a McClellan Oscillator over a long period and in various market conditions before you begin to make investment decisions with it. When you do this, you can avoid many of these pitfalls of the McClellan Oscillator altogether.
McClellan Oscillator Indicator Formula
There are two formulas you can use to calculate the McClellan Oscillator. For starters, there’s the original formula.
Then, there’s the adjusted formula that accounts for changes in the number of stocks listed.
The adjusted formula gives you a better comparison of values over a longer period. With that being said, the original formulas required to calculate the McClellan Oscillator are as follows:
- McClellan Oscillator: (19-day EMA of Advances − Declines) — (39-day EMA of Advances − Declines)
- 19-day EMA: (Current Day Advances − Declines) x 0.10 + Prior Day EMA
- 39-day EMA: (Current Day Advances − Declines) x 0.05 + Prior Day EMA
As for the adjusted McClellan Oscillator, the formulas required are as follows:
- Adjusted Net Advances (ANA): (Advances — Declines) ÷ (Advances + Declines)
- Adjusted McClellan Oscillator: (19-day EMA of ANA) ÷ (39-day EMA of ANA)
- Adjusted 19-day EMA: (Current Day ANA — Prior Day EMA) x 0.10 + Prior Day EMA
- Adjusted 39-day EMA: (Current Day ANA — Prior Day EMA) x 0.10 + Prior Day EMA
Now that these formulas are known, let’s discuss how to go about using them. To begin with, monitor the Advances — Declines on a stock exchange of your choice for both 19 and 39 days. You can track these in a spreadsheet or other method that works best for you. (Be sure to calculate a simple average, not an exponential moving average. That will come later.)
Once you’ve done this, take the values and plug them into the “Prior Day EMA” spots in the formulas for 19- and 39-day EMAs. From there, you can calculate the 19- and 39-day EMAs and use those to calculate the McClellan Oscillator value.
When the McClellan Oscillator value is calculated, you can use this value for the Prior Day EMA. From here, you can calculate EMAs for your formula instead of using simple averages. (If you opt for the adjusted formula, all the steps remain the same, but ANA is used in place of Advances — Declines.
McClellan Oscillator Versus Summation Index
When the McClellan Oscillator was developed by rocket scientists Sherman and Marian McClellan, the pair also developed a second market breadth indicator: the McClellan Summation Index. But what is the difference between the two, especially when they sound so similar and come from the same minds?
In short, the McClellan Summation Index takes the present day’s McClellan Oscillator and adds it to the previous day’s. Before long, you have a McClellan Summation Index.
This means that, while the McClellan Oscillator is decidedly not a cumulative measure, the Summation Index is. In doing this, the Summation Index becomes a useful tool for monitoring and calculating broader, more long-term trends in stock or index price.
While the McClellan Oscillator can’t be beaten for short or medium-term trends, the McClellan Summation Index is best for medium and long-term trends.
How Is McClellan Summation Calculated?
The McClellan Summation Index is calculated by taking the day’s McClellan Oscillator and adding it to the McClellan Oscillator from the day before. Then, the next day, you repeat. This effectively establishes a running cumulative measurement of a stock or index’s movements. The following formula gives you one way of calculating the McClellan Summation Index:
- McClellan Summation Index: Previous Day’s McClellan Summation Index + Current Day’s McClellan Oscillator
When calculating the McClellan Summation Index, it’s recommended you keep a few pointers in mind. First and foremost, look for major bottoms below -1,300 and major tops above +1,600.
Additionally, as a rule of thumb, the start of large, bullish runs are often represented by crosses above +1,900 after moving +3,600 points from the previous low.
S&P 500 McClellan Oscillator
To show the McClellan Oscillator in action, let’s apply this market breadth indicator to the S&P 500. The S&P 500 is a great demonstrator for the McClellan Oscillator because it tracks 500 of the largest companies on the New York Stock Exchange and is one of the most commonly known indexes available.
Remember: a number on the index above zero confirms a rise, while a number on the index below zero confirms a decline. When the index rises and the McClellan Oscillator falls, this gives investors a warning that the index might soon start declining, as well.
Presently, the McClellan Oscillator applied to the S&P 500 comes out to be 15.46 — much higher than zero, which no doubt bodes well for investors in the S&P 500. Looking back to July of 2021, the S&P 500 McClellan Oscillator has gotten close to 40 in the past four months: twice, actually, during mid to late October.
Likewise, it’s also been close to -50 in the same amount of time: again twice, but this time during mid-September. This lines up with the index’s rises and falls in price per share, to be sure, but it goes so much further beyond that — it gives signals to these rises and falls before they happen.
For instance, at the start of September, the S&P 500’s price continued to rise while its McClellan Oscillator fell. As you know, when stock prices rise while the McClellan Oscillator falls, this is a sign that prices may start to decrease soon.
This proved to be true when the S&P 500 fell over 200 points not long after. A similar phenomenon might be happening now, as the S&P 500’s price continues to rise ever-higher while its McClellan Oscillator has begun to shrink little by little.
McClellan Oscillator Website
There are many sites where you can see data from the McClellan Oscillator applied to countless stocks and indexes, but a few are worth mentioning specifically.
- Financhill
- Trading View (https://www.tradingview.com/
- StockCharts (https://stockcharts.com/)
The Bottom Line: McClellan Oscillator
In the end, the McClellan Oscillator is a remarkably useful and dependable tool for monitoring market breadth.
Think about it: many other broad-based indexes are market-cap weighted, which means that oftentimes only a select few of the biggest companies within an index can move the index. This simply isn’t the case with the McClellan Oscillator and it’s what makes it so useful and refreshing as a market breadth indicator: it gives investors a more accurate picture of what every stock in the index is doing, not just the biggest ones at the top of the pile.
Not to mention, one of the most useful aspects of the McClellan Oscillator is its remarkable foresight. The market breadth indicator’s ability to signal when money is coming in or going out is such an important and useful tool for investors and traders because it can signal when it’s time to get in or get out, unlike simply observing price per share and trying to guess as to where things will move from there. The McClellan Oscillator is strong, it’s reliable and, when used correctly, it’s essential.
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