McClellan Oscillator

McClellan Oscillator was created by Sherman and Marian McClellan, this breadth indicator is helpful in analyzing the momentum in the market breadth.

If you’ve ever heard about the MACD indicator, then understanding this breadth indicator makes it little easy, because in MACD it’s just the price average whereas here in this indicator it takes advances and declines into account. MACD measures the momentum in the price whereas McClellan Oscillator measures the momentum in the breadth.

McClellan Oscillator requires the Advancing and Declining issues to get it calculated. Let us see how this Oscillator is constructed.

1. Find the net difference between Advances and Declines every day.
2. Calculate the 19-day EMA of the net difference.
3. Calculate the 39-day EMA of the net difference.
4. Subtract the 39-day EMA from 19-day EMA.

 

Finding the net difference between advances and declines gives you the picture of what is in control, is the advances which are pushing up the market or is it the declines which are pulling down the market on a given day.

Once if we get the net of advances and declines, we need to take a 19-day ema (exponential moving average) of the net. You may wonder first of why an ema and why 19-days specifically, the reasons are, taking an average usually smooths out the data and helps in filtering out the noise, but the trade off is latency in reaction. And the reason for 19 days is because there are roughly 20 or 21 trading days in a month, sometimes due to a market holiday one or two days gets cancelled out from the 20 or 21. So, taking that into account McClellan and Sherman considered 19 days as a shorter smoothing period.

Then again we must get the 39-days ema of the net of advances and declines, the reason why 39 period is because, there are 40 or 42 trading days in two months, and some 1 or 2 days of market holiday may come in two months, so considering that into account Sherman and McClellan decided to keep 39 period as an another longer period smoothing constant for the net of advance and decline line.

The reason why 39-period ema is subtracted from the 19-period ema is to analyze the momentum of breadth, so usually we must keep a long-term view of the market and simultaneously we need to keep a short-term view of the market. Because the market moves through the cycles of ups and downs in a shorter period but sticks to a long-term trend.

So, the McClellan Oscillator attempts to find the momentum behind the breadth of one month with respect to the view of momentum behind the breath of two months’ time.

The McClellan Oscillators oscillates above and below the zero value, which means it has positive values and negative values. When the short-term (19) momentum of the market breadth is greater than the long-term (39) momentum of the breadth, then the McClellan Oscillator shows the positive value.

And when the short-term (19) momentum of the breadth is lesser than the long-term (39) momentum of the breadth then the McClellan Oscillator shows negative value.

Let us see an example below.

The above is a daily candlestick chart of Nifty50 from 1^st Jan 2022 to 13^th June 2023. Below is the McClellan Oscillator in green line with a red dotted horizontal line separating positive and negative values.

Positive Oscillator:

• A positive McClellan Oscillator indicates that advancing issues dominate, implying a stronger buying pressure in the market.
• Higher positive values suggest broader market participation and stronger momentum.
• Extreme positive readings may indicate overbought conditions, potentially signaling an upcoming market reversal or correction.

Negative Oscillator:

• A negative McClellan Oscillator suggests that declining issues dominate, indicating a stronger selling pressure in the market.
• Lower negative values reflect broader selling participation and stronger downward momentum.
• Extreme negative readings may indicate oversold conditions, potentially signaling an upcoming market reversal or bounce.

Divergences between the McClellan Oscillator and the price of an underlying asset can provide additional insights. Bullish divergence occurs when the oscillator makes higher lows while prices make lower lows, indicating underlying strength. Bearish divergence occurs when the oscillator makes lower highs while prices make higher highs, suggesting underlying weakness.