McClellan Oscillator: The Best Market Timing Indicator?

The ability to time the Market bottom of a correction is the holy grail of trading. There are not many tools out there that have the ability to consistently indicate when a rabid market correction is done. Throughout my decade-long trading career, I have found one indicator that can consistently do so: The McClellan Oscillator. 

The McClellan Oscillator's overall goal is to measure how much money is in the stock market. This measurement of liquidity is useful because the more liquidity the Market has, the higher it will go!

So, what is McClellan Oscillator?

The McClellan Oscillator is an indicator that is used to show the breadth of the market in terms of advancing and declining issues in a stock exchange. The indicator fully reflects the changes in the sentiment of the market as an index, strong shifts in the indexes are referred to as breadth thrusts. Through divergence or confirmation, the indicator can also be used to measure the strength of the index trend. So in other words, it can predict future rallies as well as its ability to indicate when corrections are done. 

Interpreting the chart using McClellan Oscillator

The McClellan Oscillator, I find tends to be much harder to read and interpret than other indicators, take a look at the indicator below, where it's used to measure the breadth of the NYSE Composite Index.

McClellan Oscilator Example

An above-zero reading indicates that the index is on the rise while readings below zero indicate that the index is on the decline. 

A combination of a rising index but a falling oscillator is a warning that the index is about to start going down, while, when the index is on the decline and the oscillator is on the rise, this is an indication that the index is about to start rising. This is what is referred to as divergence.

A change that is noticeable, such as a move of 100 points or more from a negative reading to a positive one is referred to as a breadth thrust. If this occurs, it may be an indication that a strong reversal from a downtrend to an uptrend is about to occur.

Readings +150 indicate the indicator is overbought, while -150 indicates the indicator is oversold.       

The McClellan Oscillator Formula

For those curious about how the McClellan Oscillator is calculated take a look below. If you are simply interested in unlocking the power of this Indicator, feel free to skip this section and g to the one below.

Ratio-Adjusted Net Advances (RANA): (Advances - Declines)/ (Advances + Declines)

McClellan Oscillator: 19-day EMA of RANA - 39-day EMA of RANA

19-day EMA* = (Current Day RANA - Prior Day EMA) * .10 + Prior Day EMA)

39-day EMA* = (Current Day RANA - Prior Day EMA) * .05 + Prior Day EMA)

* The first EMA calculation is a simple average.

• When the 19-day EMA is below the 39-day EMA, this is an indication that the market is on the decline and vice versa. When the chart indicates that the movement is on the rise, this shows that the market is in the buying phase while negative values show that the investors are selling their stocks.

• Crossovers from positive to negative show that the trend has changed direction.



Unlocking The Power of the McClellan Oscillator

I find the McClellan Oscillator has two incredible uses: the ability to foreshadow stock market uptrends, and timing market bottoms.

McClellan Oscillator is able to foreshadow future strength in the Stock Market when the indicator spends several days (if not weeks) overbought. Where overbought is readings above 150. Tom McClellan has coined this term "a complex structure".

So when McClellan Oscillator is overbought for several days/weeks (readings above 150), it is called a complex structure. Once this occurs, the market tends to pull back afterward, then thrusts significantly higher in the upcoming months.

I find the McClellan Oscillator predictability ranges from 1-6 months (which I consider a medium time frame). So it won't give you predictable readings that span further out than that (leave that to the NYSI indicator the father of the McClellan Oscillator).

Let's take a look at an example below, where we have the McClellan Oscillator overbought for several days/weeks forming a complex structure. As soon as it pulled back to work off the overbought condition it appreciated 17% in the following months. This probably caught many bears blindsided if they were not paying attention to this indicator.

McCllelan Oscillator Complex Structure


Timing Market Bottoms

When the McClellan Oscillator hits below -150 (which is interpreted as oversold), it tends to be great at timing Market bottom. Readings below -150 often signify the Market is about to rebound. Thus, buying around -150 is almost always profitable. 

What's even more lucrative is when the Oscillator hits -300. This is often rare and occurs maybe once or twice in a two-year span, when this happens it tends to mark very significant long-term bottoms. Readings of -300 in the Oscillator are a great way to buy into indexes over the long term (for those who are wise and patient enough to invest in ETFs).

Take a look at the example below, where I have marked every reading of -150 in the McClellan Oscillator and a rare reading of -300. You can see how the Market rebounded each time! 

Also, take note, once the Oscillator hit -300, the market bounced very hard.

McClellan Oscillator Bottom Timing

Conclusion


The McClellan Oscillator is one of the few indicators out there used to measure the amount of liquidity in the market. As the general thesis is the more money there is the more likely the stock market will rise as a whole. As shown above, Complex Structures are a great way to foreshadow strong bullish moves in the upcoming months (1-6 months). On top of that, the McClellan Oscillator oversold readings, making a great case of timing Market Bottoms.

There are a ton of nuances when it comes to this indicator, that take years of practice and studying to recognize, I've only mentioned two uses of this indicator but hopefully have convinced you to add it to your trading toolbox.

If you enjoyed this article check out How To Tell If A Stock Has Bottomed Out.

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