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Coppock as a way to measure investor sentiment

February 14, 2023

A good way to think of Coppock is as a way to measure the state of sentiment. That is what share prices do but it is easier to read with Coppock which tends to move in long slow swings. Since 2006 there have been five Coppock buy signals on this chart of the Nasdaq Technology index which is roughly one every three years. The last one on this chart, before the latest one, was three and a half years ago so we were due for another one.

People think of bull and bear markets as being driven by fundamentals such as improving or weakening earnings growth, rising or falling interest rates, inflation and trends in economic activity, which are all important factors.

But there is also just changing sentiment which is why bull and bear markets can seem to come out of nowhere. Investors just start to feel good and that drives a new bull market and vice versa for a bear which is why the reactions can be so intense. A share for an individual company can fall 80pc and yet the company may still be doing well and feel optimistic about its prospects. It is no wonder that investors feel that the stock market can be a minefield.

Almost the worst thing is that sentiment is contagious, like what happens when an army suddenly cracks and soldiers flee a battlefield. Investors lose belief, the selling begins and soon we have a vicious circle of selling which continues until the sellers are exhausted. The day comes when there is nobody left to sell and shares are primed to climb again.

Coppock tells us when the selling is exhausted

How do we measure this? I think Coppock does an amazingly good job and was designed by its creator, Edwin Coppock, to do exactly that; it measures the momentum of the decline, the urgency of the selling if you like, so as and when the selling becomes less urgent Coppock reacts to that and turns higher from a negative position.

The real message of Coppock is simply that selling pressure is easing. This does not guarantee a new bull run but it is a strong precondition. Coppock himself was especially struck by the fact that, in America at least, the natural direction for share prices is up as funds build in the hands of the big investing institutions. Eventually they have to put it to work in the stock market and it takes a steady stream of worsening news to stop them doing this.

He realised that all he needed was an indicator to tell him when sentiment had stopped deteriorating and he would have that moment when shares would hit bottom and start heading higher. So that is Coppock for you. The evidence suggests that it does work and when we think about what it is doing we can see why it should.

And where are we now. Hey presto, we have a buy signal on the Nasdaq Technology index so we can think that those big investors who we know have approaching $5 trillion burning a hole in their pockets, and that is just in the US, are ready to start buying again. And then what happens. Shares start rising which drives ETF prices higher (remember that ETFs are themselves traded collections of shares which are designed to track portfolios and indices) and rising ETFs attract retail money which pours into the ETFs and has to be invested. In no time we are off to the races again.

High-powered chart breakouts

So now we are back in a bull market and we know from history that these (a) can run for a long time and (b) that the natural direction for share prices anyhow, driven by Adam Smith’s invisible hand, all those millions and hundreds of millions of busy entrepreneurs and workers trying to better themselves and give their families a better life, is onwards and upwards.

So now we are looking for the success stories and there are two crucial clues to finding those.

The first and easiest to spot is the classic explosive breakout from a massive area of consolidation. There are two kinds of consolidation that are relevant here. The first is just a really big consolidation. There is an example in the chart below. Remember that each candlestick is six months so the breakout by Microsoft in 2013 was from a huge area of sideways trading (almost 14 years).

The other kind of long consolidation is the almost notional one before a share IPOs. Think of Google which provides examples of both types of consolidation. The shares IPO’d at $80, equivalent to $2 adjusted for subsequent share splits, and immediately shot higher in what was effectively a spectacular chart breakout. There was then a long consolidation followed by a new chart breakout.

These breakouts from massive consolidations are like gold dust, diamonds in the rough, truffles in the forest, whatever metaphor you care to use. When you find one, treasure it, because they are massive moneymaking opportunities.

‘Something new’

And they invariably come with an important development in the fundamentals. They never just happen, there is always something new going on. In the case of Microsoft this was a combination of a change of management and a change of direction by the company. Satya Nadella became CEO of Microsoft in February 2014, soon after that massive breakout. He succeeded Steve Ballmer, who was very much an old guard figure. Satay was a cloud computing guy and that is the direction in which he took Microsoft with great success.

Google’s success partly reflects similar things as the company developed a strong cloud services business in competition with market leader Amazon (AWS) and fast growing Microsoft (Azure). The market was huge so all three companies did well. Google also had its deal-of-the-century acquisition, YouTube, bought for $1.65bn in 2006. It had revenue of $28.8bn in 2021.

Alphabet has finally grown so big and so dominant in global advertising that ad revenue in Q4 actually fell three per cent to $59bn. It’s not the end of the world. Google is still the king but has finally become more sensitive to what is happening in the global economy. The huge interest rate shock which has hit so many of its customers so hard is hitting Google but it will recover. Meanwhile its Coppock is in the buying zone but no buy signal.

Strategy

Music is so amazing. I am listening to Tommy Dell singing ‘Why me Lord?’ Gospel is fantastic, like holy country music. If this is what happened in church I might even start to go. I played it to my wife and she couldn’t understand what the fuss was about but for me – it send shivers down my spine. For a different take on a gospel sound try ‘Principles of Lust’ by Enigma.

Back to the stock market. I haven’t got room here to write more but it is definitely getting more interesting with more Coppock buy signals and I am getting ready to go on the hunt for breakouts from big consolidations and important ‘something news’.

It is almost as though we need a rising Coppock to provide a positive background but the ones we really want are those monster breakout/ ‘something new’ stocks. They are going to come; they always do and if you are looking all the time as I am you will find them.

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