Created by the dynamic duo of Marian and Sherman McClellan, the McClellan Summation index is a cumulative measure based on their other oscillating indicator that tracks daily stock advancers and decliners.
Even though the McClellan Summation index is thrice removed from the raw breadth data that it is based upon, it can still provide us with a good guide to the market. One of the useful ways to interpret this indicator is through the divergences it presents with the underlying index.
I use the Nasdaq Summation index as a proxy for the stock market because its breadth data is based on actual common stocks while the breadth data for the NYSE is composed of a large number of non-corporation securities such as ETFs, bonds, CEFs, and other detritus.
The Nasdaq breadth data has its own challenges because the pool of securities that it contains is quite poor. So the cumulative advance decline line for the Nasdaq is in ever decline. Not all of the new bright eyed and bushy tailed stocks that make a public entrance on the Nasdaq become Intel (INTC) or Microsoft (MSFT).
In any case, while the Nasdaq breadth data is not perfect, it does the job. Below is a chart comparing the Nasdaq McClellan Summation index with the S&P 500 index over the past decade:
Perhaps, unlike other divergences in technical analysis, breadth divergences shown by the McClellan Summation index have to be observed with some patience. It is only after multiple negative divergences occur within a cycle that the market eventually succumbs and forms a major top.
The same can also be observed with market bottoms. For example, if you look at the 2002-2003 bear market bottom you can see that the March 2003 marked the third McClellan Summation index positive divergence.
Right now, we are seeing a divergence between the indicator and the S&P 50 index. But we can’t be Chicken Littles and run for the hills screaming that “The sky is falling!” at the first sign of such a divergence.
But this is further confirmation of what other breadth indicators are suggestion at this time (Potential Topping Pattern Worth Monitoring).