Market indexes only give you a snapshot of representative stocks. In the case of the Dow, youre only looking at what 30 stocks did to gauge the whole markets performance.
Advance/Decline NumbersThe advance/decline numbers on the other hand look at what each stock did and put them in one of three columns based on whether the stocks price:
- Remained unchanged
Advances and declines are calculated from the previous days close.
Advance/Decline RatioYou may hear the advance/decline numbers reported on television or radio as advances led declines by a ratio of 2 to 1. This means that two-thirds of the stocks advanced, while one-third declined.
Some news services report advance/decline numbers as a ratio, while others report them as a percentage.
How can you use advance/decline numbers to understand the market better? It is possible for the Dow to report a gain at the end of the day due to a couple of the stocks in the index doing well, yet declining stocks may significantly lead advancing stocks.
Go with the NumbersIn this case, you must conclude that the market was down despite what the Dow reported. This is true for the other broad market indexes also. If they conflict with the advance/decline numbers, go with the numbers, not the index to determine what the market really did in terms of direction.
A market that is significantly on one side (2-to-1 or better) either of advances or declines may have a hard time reversing out of that direction the next day.
One of the major limitations of the advance/decline numbers is they dont tell you anything about the size of the advances or declines. Were advances up a penny or a dollar?
Key UseAnother key way you can use the advance/decline numbers is in watching trading during the day to spot trends or false trends.
For example, if a major index is up significantly, but there is no corresponding increase in advance numbers, theres a good chance the increase is a bubble that will pop before trading ends for the day. (Or, in the case of the Dow, only one or two of the stocks are doing very well and the rest are flat or down.)
Likewise, if you see a big movement in the advance/decline numbers may signal a significant change in indexes.