“Bulls and bears alike, take note: the S&P 500 is on the cusp of a significant milestone that could signal a major shift in the market’s trajectory. For the first time in three years, the widely followed stock index is poised to experience a ‘death cross,’ a phenomenon where the 50-day moving average falls below the 200-day moving average. This ominous signal has the potential to spook investors and send shockwaves through the financial markets. But what does this portend for the future of the S&P 500? Will this crossroads mark the beginning of a downturn or a temporary correction? In this article, we’ll examine the implications of this ‘death cross’ and what investors can expect next.”
What is a Death Cross and How it Affects the S&P 500
A death cross is a market chart pattern reflecting recent price weakness. It occurs when a short-term moving average, typically the 50-day moving average, falls below a longer-term moving average, usually the 200-day moving average. Despite its ominous name, the death cross is not a market milestone worth dreading. Market history suggests it tends to precede a near-term rebound with above-average returns.
What is a Death Cross?
The death cross is a technical indicator that signals a potential shift in market momentum. It is formed when the short-term moving average of a stock, index, or commodity falls below its longer-term moving average. The most closely watched moving averages are the 50-day and 200-day moving averages.
The death cross is often misunderstood as a bearish signal, but historical data suggests that it can precede a near-term rebound with above-average returns. This does not mean that the death cross is a reliable indicator of a market bottom, but rather that it can signal a potential reversal in market momentum.
Understanding the Death Cross Pattern
Advantages of a Death Cross
The death cross has been followed by above-average short-term returns many times since 1992. According to Fundstrat research, the S&P 500 index was higher a year after the death cross about two-thirds of the time, averaging a gain of 6.3% over that span. This suggests that the death cross can be a useful indicator for investors looking to buy the dip or take advantage of market volatility.
Critique of the Death Cross
Despite its potential benefits, the death cross is not without its limitations. One critique is that it is susceptible to sample selection bias, cherry-picking bear-market years, and ignoring market corrections. Additionally, the death cross is a coincident indicator of market weakness rather than a leading one, which means it may not provide timely signals for investors.
The Track Record of the Death Cross
The death cross has a mixed track record as a predictor of market performance. According to Nautilus Research, the 22 instances in which the 50-day moving average of the Nasdaq Composite index fell below its 200-day moving average were followed by average returns of about 2.6% over the next month, 7.2% in three months, and 12.4% six months after the death cross.
These returns are roughly double the typical Nasdaq return over those time frames, suggesting that the death cross can be a useful indicator for investors looking to take advantage of market volatility. However, it is essential to note that the death cross is not a foolproof indicator and should be used in conjunction with other technical and fundamental analysis.
When Does the Death Cross Indicate a Bear Market?
The death cross is often seen as a harbinger of doom, but in reality, it only indicates a deterioration in price action over a period of a little more than two months. While it is true that the death cross has preceded all the severe bear markets of the past century, including 1929, 1938, 1974, and 2008, this is an example of sample selection bias, where only the select data points that support the argument are considered.
However, when the death cross occurs after market losses of 20% or more, it can be a more reliable indicator of deteriorating fundamentals. This is because downward momentum in weak markets can indicate a breakdown in market sentiment and a shift in investor psychology. In such cases, the death cross can provide a useful bearish market timing signal.
It is essential to note that the death cross is a coincident indicator of market weakness rather than a leading one. It does not predict a bear market but rather confirms the existing market trend. As such, investors should be cautious of relying solely on the death cross as a predictive tool.
Practical Applications of the Death Cross
Example of a Death Cross: December 2018 and March 2020
In December 2018, the S&P 500 experienced a death cross, which led to headlines describing “a stock market in tatters.” The index proceeded to lose another 11% over the next two weeks and a day. However, the S&P then rallied 19% from that low in two months and was 11% above its level at the time of the death cross less than six months later.
Another S&P 500 death cross took place in March 2020 during the initial COVID-19 panic. Despite the dire market conditions, the S&P 500 went on to gain just over 50% in the next year. These examples demonstrate that the death cross may not necessarily precede a severe bear market, but it can still provide a useful bearish market timing signal.
According to Fundstrat research, the S&P 500 index was higher a year after the death cross about two-thirds of the time, averaging a gain of 6.3% over that span. This is well off the annualized gain of over 10% for the S&P 500 since 1926, but hardly a disaster in most instances.
Golden Cross vs. Death Cross
What is a Golden Cross?
The golden cross is the opposite of the death cross, where the short-term moving average of a stock or index moves above its longer-term moving average. Many investors view this pattern as a bullish indicator, despite the fact that the death cross has been followed by gains in several instances.
In contrast to the death cross, the golden cross is often seen as a sign of upward momentum and a potential signal to buy. However, it is essential to note that both patterns are coincident indicators and do not predict future market trends.
A comparison of the two patterns reveals that the death cross has been followed by gains in several instances, and the golden cross has been followed by losses. This highlights the importance of not relying solely on technical indicators but rather combining them with fundamental analysis and market insights.
Conclusion
As investors closely watch the S&P 500, the prospect of a “death cross” is looming, with the 50-day moving average poised to cross below the 200-day moving average for the first time in three years. This technical indicator portends a potentially bearish trend, with the article from MarketWatch highlighting the significance of this event. Key points discussed include the implications of a “death cross” on investor sentiment, the potential for a market correction, and the importance of closely monitoring technical indicators in the face of shifting market conditions.
The significance of this topic lies in its potential to significantly impact investor portfolios and market trends. A “death cross” could signal a reversal in market momentum, with potential consequences for investors who fail to adapt to changing market conditions. Moreover, the article’s emphasis on the importance of technical analysis serves as a reminder that market trends can shift rapidly, making it essential for investors to stay informed and adjust their strategies accordingly. As we move forward, investors would do well to remain vigilant, closely monitoring market developments and adjusting their approaches as needed.
As the S&P 500 teeters on the brink of a “death cross,” investors are left with a stark reminder that the markets are inherently unpredictable. The next move is far from certain, and the path ahead will be shaped by a complex interplay of factors. As we wait with bated breath to see how this situation unfolds, one thing is clear: the markets are about to offer a stern test of investors’ resolve, and only the most nimble and adaptable will emerge unscathed.