What is Market Breadth?

Market breadth indicators analyze the number of stocks advancing relative to those that are declining in a given index or on a stock exchange (such as the New York Stock Exchange or NASDAQ). Positive market breadth occurs when more stocks are advancing than are declining. This suggests that the bulls are in control of the market's momentum and helps confirm a price rise in the index. Conversely, a disproportional number of declining securities is used to confirm bearish momentum and a downside move in the stock index.

Certain breadth indicators also incorporate volume. They will not only look at whether a stock is advancing or declining in price, but also what the volume of those moves are. This is because price moves on larger volume are considered to be more significant than price moves on lower volume.

Traders use market breadth indicators to assess the overall health of the market/index. Market breadth indicators can sometimes provide early warnings signs of a fall in the index, or forecast a coming rise in the index.

Understanding Market Breadth

Market breadth refers to how many stocks are participating in a given move in an index or on a stock exchange. An index may be rising yet more than half the stocks in the index are falling because a small number of stocks have such large gains that they drag the whole index higher. Market breadth indicators can reveal this and warn traders that most stocks are not actually performing well, even though the rising index makes it look like most stocks are doing well. An index is an average of the stocks in it. Volume may also be added into these indicator calculations to provide additional insight into how stocks within an index are acting overall.

Market breadth attempts to find how much underlying strength or weakness there is in a given stock index. By assessing the strength or weakness which isn't plainly visible by looking at a chart of the index, technical traders gain insight into what the index may do next.

A large number of advancing stocks is a sign of bullish market sentiment and is used to confirm a broad market uptrend. A large number of declining stocks shows sentiment is bearish, which would align with an index downtrend. When measuring market breadth, many indicators look at the number of advancing and declining stocks, or the number of stocks that have created a recent 52-week high or low. This data can provide information about whether an index uptrend or downtrend is likely to continue.

Key Takeaways

  • Market breadth studies attempt to uncover strength or weakness in the movements of an index that are not visible simply by looking at a chart of the index.
  • Market breadth indicators may forewarn of reversals. This occurs when the indicator diverges with the stock index.
  • There are multiple market breadth indicators based on the number of advancing and declining stocks, volume, number of stocks reaching certain hurdles, and other metrics.
  • Market breadth indicators are useful but not infallible. They sometimes predict index reversals too early, and other times not at all.

Market Breadth Indicators and Uses

There are a number of market breadth indicators. Each is calculated differently and therefore may provide slightly different information. Some indicators look only at the number of advancing or declining stocks, others compare stock prices to another benchmark, and yet others also incorporate volume.

The tactic for most market breadth indicators is to monitor for confirmation and divergence. Confirmation is when the indicator is moving favorably and the index is rising. Divergence is when the index and indicator move in opposite directions. This warns that the index may see a reversal soon. Unfortunately, market breadth indicators are poor timing signals. They may provide signals way too early or may not forecast an index reversal that does occur.

Here is a sampling of the market breadth indicators available.

Advance-Decline Index: This indicator, also known as the AD line, calculates a running total of the difference between the number of advancing and declining stocks. Traders typically look for divergence between the indicator and a major market index, such as the Standard & Poor’s 500 index (S&P 500). For example, if the S&P 500 is rising and the AD index is falling, it indicates the current uptrend in the index may be losing its momentum. On the other hand, if the S&P 500 is falling and the AD index is rising, it suggests that the move lower in the index may be about to reverse.

New Highs-Lows Index: The new highs-lows indicator compares stocks making 52-week highs to stocks making 52-week lows. A reading below 50% indicates that more stocks are reaching their lows compared to stocks that are reaching their highs and could signal a move into a bear market. Contrarian investors may use this market breadth indicator to buy or sell stocks when it gives extreme readings such as below 30% or above 70%.

S&P 500 200-Day Index: Traders can use this index to see what percentage of stocks in the S&P 500 are trading above their 200-day moving average. A rising indicator above 50% indicates broad market strength. Similar to the new highs-lows Index, traders often look for extreme readings to find overbought and oversold conditions in the broader market. Short-term traders who want a more sensitive moving average to provide earlier signals can use a 50-day index that shows what percentage of stock are trading above their 50-day moving average.

Cumulative Volume Index: This indicator measures volume. Stocks that rise have their volume added to the positive volume. Stocks that declined have negative volume. The indicator keeps a running total of whether the overall volume is positive or negative, and by how much. The indicator is used in a similar fashion to the AD line.

On-Balance Volume: This indicator also looks at volume, except up or down volume is based on whether the index rises or falls. If the index falls, the total volume is counted as negative. If the index rises, the total volume is negative. Each day is added or subtracted from prior readings to give a running total. It is used in a similar way to the AD line. (To learn more about other breadth indicators, see: Market Breadth: A Directory of Internal Indicators.)

Example of Market Breadth Analysis in Action

The following chart shows the SPDR S&P 500 (SPY) ETF along with the on-balance volume indicator and the cumulative volume index (for all US stocks).

market breadth indicators OBV and CVI applied to S&P 500
Market Breadth Indicators Applied to S&P 500 ETF Daily Chart.  Investopedia

During the rise in the S&P 500 on the left, the cumulative volume index confirmed the rise, as the indicator, continued to make higher highs along with the S&P 500. On-balance volume told a different story, as the indicator was mostly flat, issuing a warning sign that there was some underlying weakness in the rise. This was followed by a steep price decline.

When the S&P 500 ETF rebounded, so did the market breadth indicators.