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:
- Trend-followers: time to get out!
- 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:
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.