A Tarnished Sign for Bulls

The S&P 500 just formed a « golden cross, » implying a trend change for the better. But other indicators still point downward.

Stock-market trend followers have something to cheer. The Standard & Poor’s 500 just gave a signal that usually indicates a rising trend is in place that typically lasts for months, not just days. The indicator, dubbed the « golden cross, » occurs when the 50-day moving average of the index rises above the 200-day moving average. The crossover of those moving averages typically indicates the market’s medium-term trend has shifted to the upside, rather than being just a short-term blip.

STANDARD & POOR’S 500

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But before investors rush to fill their portfolios, consider that the weight of all the technical evidence still tilts toward the bearish side.

Since the financial crisis in 2008 the signal of the golden cross has been rather shaky, resulting in whipsaws — and losses. More proof is needed to confirm this positive development, especially since there is strong evidence that a multimonth bear market began last year. (See Getting Technical, « What Does 2012 Hold for Stocks? » Dec. 29, 2011.)

So why bother with such a flawed method? Aside from keeping an open mind to both bullish and bearish indicators, over the past few decades moving-average crossovers have worked rather well. This was especially true if smoothed moving averages (exponentially or geometrically smoothed averages) are used. Prior to 2010, the last time the S&P 500 gave a false signal with smoothed averages was in 1998 after the Asian financial crisis. It lasted 13 days and was clearly overruled by several other technical signals almost immediately.

All technical indicators run into rough patches when conditions in the real world are different. Indeed, many technical indicators have not fared well in the past few years in the current zero-interest-rate environment.

But what makes me very leery of the current golden cross is the proximity of serious chart resistance. Trading from January through July 2007 left a huge zone of overhead supply that already served to halt rallies in October and late November. And even if the S&P 500 can move through the 1265-1290 zone (it traded at 1281 Thursday), the challenges above in the 1350 area are even stronger. Adding to my apprehension is the fact that of all the major stock-market indexes, only the Dow Jones Industrial Average joined the S&P 500 with a respective signal. Neither Nasdaq Composite nor the small-capitalization Russell 2000 did. And nor did the equal-weighted version of the S&P 500 (the regular S&P 500 is capitalization-weighted and heavily influenced by larger stocks).

So far, the market is not speaking with a unified voice.

Another troubling factor is the strength of the dollar. Specifically, the U.S. Dollar Index, a basket of six currencies and heavily weighted in the euro, is near a 52-week high. Given that stocks—representing aggressive or risk assets—and the dollar—representing defensive, or safety assets—currently have an inverse relationship, it does present a dilemma for stock bulls. Finally, there is no leadership by the usual suspects; financial, technology and retail stocks all are lagging.

For now, we can add the limited number of golden crosses to the bullish side of the ledger. Unfortunately, the list of technical evidence on the bearish side is quite a bit longer.

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