Given the overwhelming attention given to the 50/200 day moving average signal, otherwise know as the Golden Cross, I was reluctant to weigh in…at first.  My main motivation to avoid the band-wagon was based on my typical contrarian views, however, I've found some very valuable data that may help you trading yield more lucrative results given the cross is expected to occur Tuesday. 

I read a study this morning from Fred Goodman of MarketMonograph on the Golden and Death Crosses going back to 1953.  He found that the average loss by the S&P (SPY)  following a negative crossing of the 50- and 200-day averages was 10.9% and that there were 31 cycles in the 57 years since 1953.  It concludes that the signals came too late to make it profitable to use them as primary indicators, after all, the market is already down 20% from its April high, and if you have been out of the market for most of that time you missed downside. However, the fact that there is the potential for an additional loss of 10.9% on average, certainly suggests that we pay the crosses some attention.

All that said, one of the better pieces of analysis on the Cross comes from MarketSci - they do an excellent job on this so I wanted to share it with you.  Enjoy the weekend read:

In this series I’m rehashing my old analyses of the Golden Cross.

This is a test of that most venerable of market timing indicators, the “Golden Cross”. The Golden Cross occurs when the 50-day moving average crosses over the 200-day, and to some technicians signals the start of a bullish bias in the market.

[logarithmically-scaled, growth of $10,000]

In the graph above I’ve assumed a trader went long the S&P 500 at today’s close when the 50-day simple moving average closed above the 200-day (otherwise to cash) from 1930 to present. The strategy is drawn in red versus buy & hold in grey.

Geek note: see end of post for assumptions about return on cash and trade frictions.

As the graph above shows, this simple crossover strategy has more or less kept pace with buy & hold over the last 80 years. But more importantly, as the stats below show, it’s done an even better job reducing drawdowns by limiting losses when the market turned bearish.

This general observation can be applied to all similar trend-following strategies (ex. 10/50-day, 2/10-month, etc)…

Long-term moving average crossovers haven’t been useful for generating outsized returns (for that you’d need a more active strategy), but they have done a good job protecting investors from protracted downturns.

As a hyperactive trader I personally wouldn’t trade such a slow-moving strategy; I think there are just too many opportunities within the trend. However, for investors of the longer-term variety, I think the Golden Cross is a significant improvement over straight buy and hold.

Happy Trading,
ms

Test assumptions: (a) I’ve calculated the moving averages using the S&P 500 cash index (which traders generally use), but calculated returns based on daily dividend-adjusted data (dividends interpolated from quarterly data), (b) results are frictionless (i.e. do not account for transaction costs/slippage) but could be closely reproduced in today’s market using mutual funds less part of an annual expense ratio, and (c) I’ve assumed a return on cash of half the nearest 13-week Treasury.

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