A Very Interesting S&P Chart

Here is a chart you probably won't see anywhere else so let me explain what we are looking at. The chart above is a weekly 3 1/2 year chart of the S&P. In the lower panel we have the Nasdaq Composite divided by the S&P. When the ratio is trending higher it means that the nasdaq is outperforming the S&P. If the ratio is trending lower it means the Nasdaq is weaker or underperforming the S&P. The theory behind this ratio is that it can be used to predict what the S&P will do. If the S&P is trending higher but the nasdaq isn't, chances are the S&P will sell off. You can't have a meaningful rally in the S&P without participation in the nasdaq. This divergence can be seen by looking at the ratio.

Notice in the above chart if the S&P is making a new high while the ratio is making at least a 4 month low, the S&P sells off. This happened in March of 2004, March of 2005 and May of 2006. Right now the S&P is making new highs while the ratio is moving lower. The ratio hasn't made a 4 month low yet, but I think next month it will. I'll keep you posted on this chart. I think it's a really good indicator for what the S&P is going to do in the near future.