June 16th, 2010

Future Direction Nearly a Toss of the Coin

The market finally crossed back over the 200-day moving average. Many of the corps of “talking heads” heralded the move as a sure sign the correction has ended; some brave soles ventured that this move up is an opportunity to sell before the next leg down. First the context (click on images to enlarge):

Today’s cross over comes after four previous attempts failed and after two bounces off the 300-day moving average below. Being caught in the vise of the two moving averages was a situation that couldn’t last for very much longer. A couple of weeks ago, in “Market on Verge of Being Oversold“, I wrote:

Over the past nearly 50 years, the index has

  • crossed back above the 200-dma 41% of the time,
  • continued to decline and crossed below the 300-dma 33% of the time and
  • waited for the 50-dma to follow and cross below the 100-dma 12% of the time (the remaining 11 outcomes, or 14%, produced single instance occurrences)

Although the lower probability outcome, I feel the next milestone will by the index crossing below the 300-dma on its way to the 950 area.

Rather than continuing the decline and crossing below the 300-dma, the market crossed back the 200-dma today, as predicted by the probabilities. I was wrong and should have listened to the statistics rather than my gut. And what happens now?

The Index has crossed above the 200-dma many times over the nearly 50 years since March, 1963, but only 33 times when the other moving averages were in a perfect bullish alignment as they are now (50-dma above the 100-dma above the 200-dma above the 300-dma). Many of those other times where when the market was recovering from a bear market, when the moving averages were in a bearish, inverted alignment. And what has tended to follow these 33 cross overs (click to enlarge)?

In 45% of the cases, the Index has crossed back under the 200-dma in less than 3 days, on average; at the most in 8 days. However, in 39% of the cases, the Index continued to rise sufficiently so as to cross back above the 100- or 50-dma (the move above the 50-dma occurred when the 50- and 100-dma’s were about to cross themselves so the Index jumped above both simultaneously). The remaining 15% of situations involved the 50-dma crossing below the 100-dma.

Which outcome is most likely today? Unfortunately, history presents nearly a flip of the coin as precedent. You may like those odds and may start loading up on stocks but, again, I’ll stock with the more bearish alternative of the Index soon crossing back under the 200-dma …… until there’s more evidence of the correction’s end.

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  • Jesse

    excellent post joe! I was convinced that you were going to be very bullish and you proved me wrong. I absolutely think that we cross back under after forming the shoulder 1020-1033 range. could happen as early as tomorrow or friday

  • Anonymous

    Joe you should bias yourself toward your patterns (present not possible future ones) and stick to your foundation of chart pattering. Yes it's all about statistics, but I feel the stats are indicating an up move towards 1200 by end of the month. Don't rely on gut feelings; rely on the probabilities otherwise why use tech methods and then don't trust them. Hope and emotions don't get you there. Jesse does however. He again will change his tune.

  • Douglas

    Joe:
    I noticed that most upward trends and the breaking of the 200-dma in recent months have all occurred on lighter volume than the downward trends. Does this provide any clues as to the overall sentiment of the market and potential future trends?