Simply put market environment is the quality of the pitch on which you are going to bat! Doesn’t matter if you are Virat, Sachin or just a gully cricket guy, a favourable pitch is what any batsmen would prefer
By standard definition , Market environment in trading refers to the overall conditions and factors that influence the behaviour of financial markets. Understanding the market environment is crucial for traders to make informed decisions and assess the potential risks and opportunities in the market.
What it means is that market environment is a critical part impacting the probability of outcome of any trade even though any particular trade outcome is completely random
While there are many indicators and ways to gauge the “FRIENDLINESS” of the market , one of the simple ways I have found useful is the Market Breadth Ratio
In simple terms , Market breadth is an indication of participation of stocks in any move (Up or Down)
You want to be aggressive when many stocks are participating in a positive direction and defensive when the case is other wise
Let’s get a little data heavy now…Hold on tight!
One of the most popular ways of analysing is a simple look at the Stocks above 20 DMA and Stocks below 20 DMA would show us the health of the market
Let’s look at recent data for Sep’23:
I have added the number of stocks and applied a conditional formatting to visually understand the relative change
For Above 20 DMA -
Solid green indicates a healthy market where there were many stocks which were above 20DMA
Solid Red indicates a weak market where there were few stocks which were above 20 DMA
Completely opposite for Below 20 DMA case
Now if you plot a similar table from 2021 to Sep’23 you would understand that 150 stocks and 1500 stocks are the extremes for above and below 20DMA scenarios
That is great info?? How does it change my life?
It simply means that trends start to reverse or pause when the numbers are at extremes. Hence, EXTREMES are important
Also if you maintain this and map it to your trading log (Provided you maintain one..:)), You would soon find the following :
Ratio>2 is when you can press the gas and become aggressive (Large positions, more risk)
Ratio<1 is when it is frustrating and you have to slow down with small risks and testing positions
1<Ratio<2 is when you have to be really selective and adapt better
It is these simple observations that can help you fine tune your trading
Here is a free Chartlink market breadth tracker you may refer
In my Market breadth monitor , I have just added the ratio for simple view
Note: This is a skill which needs to be honed and practiced in real time by taking real trades
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