MORE HISTORY ON MOVING AVERAGE CROSSOVERS -- WHY EMA LINES ARE MORE RELIABLE -- THE DIRECTION OF THE 200-DAY MA IS ALSO IMPORTANT -- WEEKLY 13-34 EMA COMBO IS ALSO AT CRITICAL POINT -- PREDEFINED STOCK SCANS REFLECT NEGATIVE TREND
THE 50-200 EMA COMBINATION WORKS BETTER... My Tuesday article on the significance of the "death cross" for the S&P 500 (when the 50-day average crosses below the 200-day) evoked a lot of messages and questions about the reliability of its signals. A number of readers correctly pointed out that the 50 and 200 day "simple" moving average (SMA) combination has given several false signals in the past. By my count, downside crossings took place in the autumn of 2004 and August 2006 before turning back up again as shown in Chart 1. That's why I suggested that the 50 and 200 day "exponentially smoothed (EMA)" combination worked better. Chart 2 shows that the 50-200 EMA combination stayed positive throughout 2004, 2005, and 2006. The only recent instance where both turned negative before turning positive again was in October 1998 (not shown here). In that instance, however, the EMA combination turned back up within a month (at the start of November) while the simple average combo didn't turn up until December. Even in that instance where both got "whipsawed", the EMA combination got back on track on the upside faster.
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Chart 1
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Chart 2
EMA TEST STILL GOING ON ... We now have a similar discrepancy going on. Chart 3 shows that the 50-day EMA is still testing the 200-day EMA line on the S&P 500. By contrast, Chart 4 shows the "simple" 50-day average having already crossed below the 200-day. Of the two charts, Chart 3 is the one I'd pay most attention to. And that issue is still in doubt. A number of other questions were raised that should be noted. For one thing, most important market downturns in the past (like 2000 and the end of 2007) saw downside crossing in all major stock indexes. So far, only the NYSE Composite Index is in that negative situation. The Nasdaq isn't even close. So that issue is in doubt as well. Finally, there's the direction of the 200-day average itself. One reader asked if its direction meant anything. My answer would be yes. Chart 4 shows the red line flattening out over the last month. In the past, a significant downturn in the 200-day average marked important tops. We haven't seen that yet. If you refer back to Chart 1, you'll that the downside crossings by the 50-day SMA during 2004 and 2006 took place while the 200-day m.a. was still rising. That has less signficance than a downside crossing when the 200-day m.a. has also turned down.
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Chart 3
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Chart 4
WHAT ABOUT TRADING RANGES?... Another reader asked if any "death crosses" in the past resulted in sideways trading ranges instead of major downturns. The only good example I found of that happening was during 1994. Chart 5 shows that year to be basically a sideways market (often referred to as a stealth bear market) before resuming its uptrend in 1995. Other "death crosses" during 1984, 1987, and 1990 saw more significant market declines. At the moment, several important U.S. stock indexes (especially EMAs) are in danger of forming the so-called "death cross". [Most foreign stock markets have already done so]. If and when it does occur, the historical record says that it raises the risk level in the stock market and is worth paying attention to (at least until the "Golden Cross" takes place when the m.a. lines turn positive again).
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Chart 5
WEEKLY 13-34 EMA COMBO ALSO BEING TESTED... Some readers asked if the 13-34 weekly EMA combination had turned bearish. It's close, but not just yet. As of midday on Thursday, the blue line is just a hair below the red line (1095 vs. 1097), but not enough to signal a conclusive downside crossing. Since this is a "weekly" combination, a true reading will only be possible at the end of the week. There again, the market appears to be in an important testing phase.
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Chart 6
NEGATIVE PREDEFINED STOCK SCANS... The "Predefined Stock Scans" page shows the number of stocks and mutual funds that are experiencing positive 50-200 day crossings (golden crosses) and negative crossings (death crosses). By comparing the numbers in each category, you can also get an idea of which way the market is trending. Today's numbers show a decidedly negative trend. The NYSE, for example, shows 43 negative 50-200 day m.a. crossings versus no positive ones. The Nasdaq has a 19 to l negative ratio. The mutual fund column shows 301 downside crossings versus only one positive one. Those negative ratios are going to have to show a lot of improvement if the market is going to pull out of its current downtrend.
