Yesterday evenings reads led with a link to Mark Hulbert’s How to know when it’s time to leave the party. Hulbert created a backtest that compared being “fully invested in the Dow whenever it was above its 200-day moving average, and otherwise completely out of the market.”

That above or below signal in theory keeps you out of trouble. I prefer to use a broader index than the Dow — which is too small, too large cap — such as the S&P500 or the Wilshire Total market.

The problem with using the 200 day is it generates a new data point daily. This potentially creates a new buy or sell signal every single day the market is open. That is potentially rather “whippy” — subject to many false signals of breakouts and breakdowns,

One simple solution is to use the 10 month moving average instead. (10 months is roughly 210 trading days). Since it only generates a new data point once a month, it removes a lot of the head fakes and false signals.

I mentioned this to Mebane Faber, whose done a lot of number crunching on this issue. In an email, Meb notes the following:

1. It doesn’t matter what precise indicator you use (i.e., 50 day SMA, 10 month SMA, 200 day EMA etc), they generally perform similarly over time and across markets. Of course, in the short term there will be very large variation (example Oct 1987), but on average they are similar.

2. You have to include dividends and interest paid on cash. Most trend models don’t trade that much vs. a normal rebalance, and transaction costs are low now (although substantial the longer you go back).

3. The point about daily vs. monthly signals is valid, in that daily will get whip sawed around more and also incur more transaction costs.

4. The main takeaway, and missed often, is that trend indicators in general are not return enhancing (although they often are in the more volatile asset classes like Nasdaq or REITs).  They are mainly risk reducing for volatility and drawdown. This results in higher Sharpe ratios and a less volatile portfolio.

5. If you want return enhancing, a relative strength or momentum approach works great.  But the magic occurs once you start combining lots of assets with lowered vol and drawdowns….results in a great portfolio.

Here is Meb’s data for the DJIA back to 1922.  It’s a simple 10 month SMA on the total return index, and places the cash in either Tbills or 10 Year Bonds.



Note that it doesn’t do much for returns — I argue it is because the entries and exits are symmetrical (my thesis is they shouldn’t be). Rather, using the 10 month manages works to drastically reduce volatility (by about 33%) and cuts down drawdowns (by about 50%).



How to know when it’s time to leave the party
Mark Hulbert
MarketWatch, Feb. 19, 2013

See Also:
Moving Averages: Month-End Update
Doug Short
Advisor Perspectives February 1, 2013

Category: Markets, Technical Analysis, Trading

Please use the comments to demonstrate your own ignorance, unfamiliarity with empirical data and lack of respect for scientific knowledge. Be sure to create straw men and argue against things I have neither said nor implied. If you could repeat previously discredited memes or steer the conversation into irrelevant, off topic discussions, it would be appreciated. Lastly, kindly forgo all civility in your discourse . . . you are, after all, anonymous.

10 Responses to “200 Day versus 10 Month Moving Averages”

  1. [...] Can we really rely on 200-day or 10-month moving averages for risk management decisions?  (TBP) [...]

  2. Orange14 says:

    BR – did you ever complete the analysis that you and Mebane were planning to do as outlined in the May 16, 2012 post? I’ve been generally skeptical of technical signals since I’m always on the outlook for undervalued securities which should perform reasonably well regardless of such stuff. Identification of macroeconomic ‘bubbles’ is perhaps a more useful tool to decide on when to make a major sell decision. The overall problem from my perspective is that the data set is really insufficient to come up with a good algorithm that works well. Even what is shown in the table above has quite high standard deviations.

  3. larrr1 says:

    Accounting for taxes, you’d be doing yourself a _gigantic_ financial favor to tolerate more volatility…

  4. guru says:

    A combination of both the Death Cross (50dma crossing under the 200dma) and a simple Index cross under the 200dma also reduces volatility. Back testing to 1963 produces average annual returns of 9.48% vs. a buy-and-hold of the S&P 500 Index of 6.2%.

    Over 50 years, following this market timing rule increases $1000 to $82,858 vs the buy-and-hold increases to $17,190!

  5. AHodge says:

    Its way too early to look for a big top in US market, a top of cycle top.

    here is my big top indicators list
    1. The Conference Board or ECRI lead indicators have peaked and turned down.
    2. Short term interest rates are about equal or higher than long term (an inverted yield curve). Look at the three month vs 10 yr treasury rates.
    3. Debt markets have grown rapidly, including debt to GDP ratios, and riskier debt is not paying much of a premium interest rate.
    4. There look to be economic excesses, too much real equipment and building investment, maybe housing again?
    5. Signs of another major credit bubble, possibly a lot like this past one
    6. Profits not growing anymore

    other than possibly profits
    which may not be a big reversal— we aint there

    technical measures are good this one also
    help to support big turn evidence
    you can also trade shorter term like now
    lighten up change industry strategy names.
    lightening up whenever you are nervous works
    for active traders who can mostly avoid getting whipped,
    its easy to rightly get nervous a lot

    im mostly out of US finally made a little money shorting europe till last fri
    where fortunately my options expired
    but could get longer US short term
    now europe trades up a little this week and may extend
    possibly till after the first ECB rate cut
    Dhraghi signals Euro rate cut maybe soon
    drives Eurozone markets –and euro-up
    that was his “see if strong euro is driving inflation down
    its mostly BS
    he looking at the truly awful Eurozone economic data–including Germany

    central bank talk for rate cuts

  6. I’m not so sure that is accurate — see this about crosses

    Worry About Important Things — Not The Death Cross

    How Bullish is the Golden Cross?

  7. I find Barry’s post VITAL for investors. Points 4 (risk reduction) and 5 (way to increase performance) should be carved in stone.

    The Big Picture already posted a seminal post further expounding the value of market timing through technical analysis:

    So, technical analysis and even a modest moving average result in greatly diminishing risk.

  8. EIB says:

    What about using 200 day average, and only executing the trade at month end if the signal still holds? Is that basically the same thing as checking the 10 month average at month end?


    BR: Whats the point of that?

  9. jbegan says:

    I agree with the author’s comment on the DOW as being of limited value as it only involves 30 stocks, and for the longest while I used the S&P500 until I read that 50% of the S&P’s movement was related to only 5 companies (Apple, Microsoft, Bank of America.. and I can’t recall the other two.) As an aside, I follow someone that successfully uses the 15 minute DOW as a leading indicator for broad market moves in relation to the stocks he plays; predominantly under $3.00.


    BR: I do not believe you are correct about the 50% figure driving SPX price action (but that may be close to the number for earnings). Can you please find a source for that? I’d rather not post something erroneous here.

  10. EIB says:

    BR, the point would be if you’re using a product that doesn’t do monthly averages and only allows you to choose 200 days. In that case, to reduce whipsaw, you only make the trade if the signal is maintained at month end. Does this effectively simulate the 10 month tactic?


    : You can engage in sorts of convoluted backflips witht he 200 day, but the bottom line is the 10 month does what we want — so why bother?