Investing and the Death Cross

Much talk of the ‘Death Cross’ these days.  The 200-day moving average (200 DMA) is seen as the indicator for folks to start bailing on the stock market.  The Russell 2000 crossed this level a while back; the S&P 500 crossed its 200 DMA yesterday.  Market prognosticators will now side with:

  1. Trend-followers: time to get out!
  2. Value investors/contrarians: time to get in!

Which one should I be?  Well, let’s go back to our friendly Quandl report on S&P500.  Since 1950, let’s see whether it pays to be in the first or second category:

200dma

The green line simulates the easiest strategy possible – buy the S&P500 in 1950, and hold it forever.  The purple line is the same, except for the following:

  • If the closing price on date t is below the 200 DMA, sell on the opening price the next day.
  • If the closing price on date t crosses above the 200 DMA, buy back in.

I’ve used a log-scale chart, so the time frame doesn’t really matter – you could buy in 1960 or 2000, and the scale of the results aren’t really impacted (aside: do you get angry at investment performance reports showing arithmetic scales, rather than log scales; particularly when covering a long time period??  I find them very annoying, and downright misleading).

Anyway, what do you notice?  The main takeaways, for me, are the following:

  • Exiting at 200 DMA doesn’t seem to matter much in the long run.  Returns are what they are.
  • Position risk looks to be much better when you exit at 200 DMA.  I’m sure many would prefer to have sat-out the 2008/09 crash.
  • In sum: the risk manager will love you for exiting at the 200 DMA.  But your returns may or may not be negatively impacted.
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