Thursday, April 2, 2009

Another reason weve seen the market low for now

About a year ago I wrote about how the stock market resembles a dog on a leash. Prices fluctuate from the trend, sometimes in extreme spikes which mark important inflection points.

I thought I’d revisit the idea by taking a long term look at the S&P 500 and comparing how it has fared to its own long term (200 moving average). To equalize things and make it comparable over time, I expressed the divergence from the mean as a percentage:

Looking at the data from 1950 to present, here are the rare times when the S&P 500 Index (SPX) traded at an extreme relative to its simple 200 day moving average:

July 26th 1962 -22.62%
May 26th 1970 -23.18%
October 4th 1974 -28.58%
October 19th 1987 -24.75%
Sept 21st 2001 -22.11%
July 23rd 2002 -26.98%
October 7th, 2002 -23.84%
November 20th 2008 -39.79%
March 9th 2009 -36.53%
The dates should be easily recognizable since they correspond to almost every single major turning point in recent market history. The numbers represent the percentage relative to the long term moving average. So on July 26th, 1962 the S&P 500 traded 22.62% below its simple 200 day moving average.

Looking at the data this way, you easily gain perspective on just how epic the recent market action has been. Not since 1929 has the market veered off so dramatically from its long term path. Put another way, if the November 2008 low doesn’t mark a significant inflection point, it will be the first time.

A quick back-of-the-envelope calculation shows that 60 trading days after these dates shown above the market is always higher, sometimes significantly:

I’ll revisit this when 60 days have passed from March 9th, 2009
Even if we assume that the November lows will indeed mark a significant low for the S&P 500, there is no reason to believe that prices would simply climb higher from here onward. We could enter a protracted sideways market, or we could also slowly drip lower, revisiting the previous lows. But it is difficult to argue that what we have just witnessed isn’t but a monumental and rare market event that has characterized important turning points in the past.

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