All serious students of the US equity markets are well aware of the recent inability of the small cap indices' prices not keeping up with the larger caps. Let's take a look at some the small cap AD McClellan Summation Index (McSum) configurations. Many of the small cap index AD lines trend lower in the long term, thus the choice for using their McSum indicators as a liquidity proxy.
The Russell Corporation defines several indices including large cap (RUI), small cap (RUT), and their Microcap index. Here are the definitions of the indices we will look at in this post:
Russell Large Cap (RUI): As of August 29, 2014, RUI has 1024 constituents including most of the SPX large cap components and many of the S&P mid cap index, MID
Russell Microcap Index: The Microcap index is currently comprised of 1631 US small cap stocks, where 959 of the Microcap constituents are also in the Russell 2000 (RUT), with the remainder of Microcap components not included in RUT.
Nanocap Index: the Nanocap index is a small cap index I made up, which is comprised of 672 of the smallest cap US stocks. These are the companies in the Russell Microcap index that are not included in the Russell RUT index. Many of the Nanocap index members are thinly traded and the Nanocap price index referenced is unweighted by averaging all of its components' daily percentage price change.
The first chart is the RUI large cap AD McSum which is ratio adjusted since all the indices being addressed have an unequal number of issues. The chart is from early 2004 with the red dotted line designating the +500 level, the black dotted line the zero level. Note the RUI AD McSum has recently risen above the +500 level indicating strong liquidity.
The next chart is the AD McSum for the Russell Microcap index, and we observe its McSum is at -265 as of August 29, 2014 after bottoming at -647 in early August. Notice the weaker price performance since its early March, 2014 top. These 1631 smallest cap stocks have been far weaker than the large caps in both price and liquidity.
Finally, the current status of the Nanocap index's price and AD McSum. The Nanocap ratio adjusted AD McSum is currently at -406 after bottoming at -592 in early August. Notice since the October 2011 bottom, the Nanocap AD McSum found support at it -500 level. A potential good sign for the Nanocap liquidity profile its August 12, 2014 McSum low (-592) was nominally higher than its May 22nd low of -625. The Nanocap unweighted price index bottomed at 3276 in May 2014 and bottomed nominally lower in early August at 3268. Therefore, the Nanocap AD McSum did enjoy a positive divergence with respect to price at its two most recent price bottoms.
Needless to say, healthy markets need adequate liquidity for all cap sizes, a luxury we haven't enjoyed since the May 2014 bottom. If this liquidity divergence between large and small cap issues continues, additional price declines will be needed going forward for refreshing liquidity across all cap sizes.