Very interesting data published by Mark Hanna that explains much of the challenges that trend followers have had over the past couple of years:
Historically the idea with basic technical analysis is to be very cautious when the market breaks key technical moving averages – especially the longer term ones i.e. 200 day moving average; and conversely be aggressive when above said averages. Since 1940 you’d get an outperformance of some 10% on the S&P 500 by following that simple rule. However in his weekly letter John Hussman points out that policy makers have created a “new normal” with their interventionist policies since 2009. It helps explain why things have been quite backwards for much of the past few years and certainly had me a bit shocked at the data. But it makes sense when you think of all the “V shaped” moves off of broken charts when an explicit intervention was announced by this central bank or that one, or one government body or another. That said the incredible lack of progress when markets are over their 200 day MA and their incredible bounces when below since 2009 (or even 2010) are quite eye opening.
To put some numbers on this, it’s worth noting that since 1940, the S&P 500 has achieved an average annual total return of 14.5% in weeks where it was above its 200-day moving average as of the prior week’s close, and just 4.4% when it was below its 200-day moving average.
By contrast, since 2009, the S&P 500 has achieved an average total return of just 5.4% annually when it has been above its 200-day average, versus 36.7% when it has been below. Put another way, advancing trends above the 200-day average have repeatedly failed, making limited net progress overall, but declines have been halted and often breathtakingly reversed with each intervention. This pattern also reflects an unfinished cycle, the completion of which is likely to significantly damage the appeal of reflexively “buying the dip.”
The recent pattern isn’t just an artifact of the rebound from the 2009 low. Even since 2010, the S&P 500 has gained just 1.5% annually when it has been above its 200-day moving average, versus a striking 46.3% annual return when it has been below. Needless to say, this pattern is not necessarily indicative of how the S&P 500 will behave in the future, and is in fact contrary to the historical pattern.
It is common to hear explanations for why the interventionist tendencies of policy makers are here to stay. However, I think it much more likely that “this too shall pass.” After all, this is surely not the first time in our history where interventionist policies have been elevated for periods of time.
HT: Abnormal Returns
