Hindenburg Omen
An indicator that studies and compares the observed and set reference percentage of stocks with new 52-week highs and 52-week lows.
What Is The Hindenburg Omen?
The Hindenburg Omen is an indicator that studies and compares the observed and set reference percentage of stocks with new 52-week highs and 52-week lows. With that, it attempts to foreshadow an increased chance of a stock market crash.
James R. Miekka, a stock market analyst and writer, is recognized as the creator of the Hindenburg Omen indicator. Still, it was named as such by Kennedy Gammage of the Richland Report. It was named after the Hindenburg disaster, where a German airship crashed in 1937.
So, the Hindenburg Omen is used to foresee falling share prices or sharp corrections in the market within the next 30 days.
The indicator is not necessarily used or relied on alone. Instead, traders and analysts can utilize other indicators, like the McClellan Oscillator, to confirm the market's direction and the probability of falling stocks during the next 30 days.
For instance, after the Hindenburg Omen detects an increased likelihood, the McClellan Oscillator (MCO) must display a negative to confirm the indicator's signal. On the other hand, if the MCO stays positive, the signal is abandoned.
In addition, the market must be in an uptrend for the Hindenburg Omen's signal to be proper and useful, and a crash can only be expected in a bull market.
Furthermore, it is commonly utilized by many in the finance world, including analysts, traders, and investors who benefit from learning about the decline or crash in advance.
Note
The Hindenburg Omen is important for traders as it gives them the heads up and opportunity to close their positions, learn how to evade major losses, arrange themselves, and take the steps necessary to profit from it potentially.
Key Takeaways
- The Hindenburg Omen compares the observed and specified reference percentage of stocks with new 52-week highs and 52-week lows to foresee an increased likelihood of a crash in the stock market at a given time.
- It forecasts falling prices and crashes within the next 30 days and depends on several criteria.
- The indicator was named after the Hindenburg disaster involving a German airship crash in 1937 and is used by several traders, investors, and analysts.
- The indicator serves as a warning for traders and investors to decide how to proceed. Those with positions in the market can choose to leave or be short to potentially profit, while those who have not yet entered the market can delay their decision.
- The indicator is imperfect but used alongside others, like the McClellan Oscillator. In addition, some traders advise using a cluster of signals over time instead of relying on one.
- Some criticisms of the Hindenburg Omen revolve around its history of generating false signals, the influence of stocks and non-stocks, and the international market.
Main Criteria For The Hindenburg Omen
The indicator builds on market breadth theories and divergence. So while the overall market is trending in a specific direction, it does not necessarily mean all the stocks are heading that way.
Known for the volatility and sometimes unexpected changes, some stocks would face new highs, while many would be enduring new lows, creating a great deal of confusion.
The Hindenburg Omen does not have a particular formula. Instead, there are specific criteria that must be satisfied for its signal to be considered valid, which are described below:
1. An ongoing bull market
The broad index, like the S&P 500 Index or the composite index of the stock exchange, should be in an uptrend to promote buying, which is confirmed by witnessing a 10-week or 50-day moving average sloping upward.
2. New highs and new lows
Market breadth split showing the daily number of stocks that are observing new 52-week highs and 52-week lows from among the market's index as higher than a specified threshold.
The commonly used threshold is 2.2%, but some analysts refer to 2..8% instead.
3. Signs of bull weakness
The overall trend should still be up, but the number of stocks that make 52-week highs should not exceed 2x the number of stocks facing 52-week lows.
4. Signs of an increasing bearish momentum
There must be an indication of a resurgence in the stocks, which is portrayed by the MCO showing a negative value.
How To Use The Hindenburg Omen While Trading
The way in which one can utilize the Hindenburg Omen depends on whether you are investing or swing trading in the market and your trading situation when the indicator's signal arises.
When this happens, there are a few basic actions that traders can take, outlined as follows:
1. Leave the market.
The Hindenburg Omen acts as a warning for when traders and investors should protect any profits they have at that point and leave to avoid losses.
Some big investors may not leave immediately and instead take necessary action with protective puts to have an easy way to leave if the crash occurs. So, traders can sell their stocks at an agreed strike price within a given time period.
2. Postpone trade entry.
The indicator acts as a warning for traders and investors to postpone trading to assess the market before pursuing any decisions. Thus, they can maintain their capital and avoid entering the top before facing losses in the crash.
3. Go short on the market.
The indicator also drives traders with margin accounts to search for shorting opportunities to profit from the market crash potentially.
Criticisms Of The Hindenburg Omen
The Hindenburg Omen generally creates a signal in the right direction, but it is not always 100% effective. Some analysts also advocate for ignoring the indicator's prediction. Some of these reasons are outlined below:
1. False signals
The Hindenburg Omen had produced a signal before every major crash in the market that occurred over the past 35 years or longer. Still, there are many times when it delivers a signal, and no crash actually occurs.
2. Small-cap stocks and non-stock issues.
Some analysts argue that small-cap stocks and non-stock funds traded at exchanges can distort the Hindenburg Omen.
3. Effects of international stocks.
Suppose the indicator utilizes stocks and non-stocks listed on the NYSE or NASDAQ. In that case, the conditions related to specific foreign stocks on foreign ground can impact and mislead the indicator’s prediction on the stock market of the U.S.
Some traders fear that exchange-traded securities that track international stocks can distort the indicator.
For example, suppose those tracking foreign stocks face new lows while U.S. stocks face new highs. In that case, the indicator may display a false warning that the U.S. stock market will crash when it is doing well.
Note
To try and decrease the number of incorrect signals created by the Hindenburg Omen to improve the indicator, traders must utilize a cluster of signals over a specific time period, instead of just one signal, before drawing predictions and conclusions.
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