There are many technical indicators traders and investors utilize in their decision making process. We have been exploring how effective one particular technical pattern is and have some surprising findings to share. The pattern in question is known as the Death Cross. A quick search will reveal the definition(s) of this particular pattern, and for our purpose, we will assume the following definition.
Death Cross - when a short-term moving averages (in our study 50-day) crosses below the long-term moving averages (in our study 200-day).
Before we go to the data and findings, there are additional assumptions we'd like to lay out.
- Sell signal (short selling) is triggered when 50-day moving average crosses 200-day moving average. In our case, we use a simple moving average.
- Targeted buy (short covering) is 253 trading days from the date the sell signal is triggered.
- The data excludes any signals that occurred 60 trading days prior to the sell signal. For example, if a buy signal was triggered on March 1st and sell signal was triggered on April 1st, we will omit the buy signal since it occurred within the 60 trading days of the first signal. This should eliminate false alarm.
Now that we've laid out the rules, the index we will focus on is the S&P 500. Anyone can replicate our study by downloading the historical price from Yahoo!Finance using the non-adjusted closing price.
According to a prominent investment site, the death cross is a technical pattern indicating a potential for a major selloff. The excerpt below came from the same site.
The death cross indicator has proven to be a reliable predictor of some of the most severe bear markets of the past century: 1929, 1938, 1974, and 2008.
Let's explore how reliable this indicator is. Since inception of S&P 500, we observed 30 instances of the death cross, 8 of which lead to a negative return after 253 trading days. This is a 27% success rate if you short sell the market. On the other hand, 73% of the time the market actually gained value in the same time frame. In our research, we saw an average gain of +6%, maximum gain of +31%, and largest loss at -42%. The table below provide a detail of all 30 transactions.
| Date | Short Selling Price | Buy to Cover Price | % Gain/Loss |
| 5/11/1953 | 24.91 | 28.72 | 15% |
| 10/26/1956 | 46.27 | 41.02 | -11% |
| 9/26/1957 | 42.57 | 49.66 | 17% |
| 10/30/1959 | 57.52 | 53.94 | -6% |
| 5/7/1962 | 66.02 | 70.01 | 6% |
| 7/22/1965 | 83.85 | 85.41 | 2% |
| 4/28/1966 | 91.13 | 93.84 | 3% |
| 2/27/1968 | 90.53 | 101.02 | 12% |
| 3/13/1969 | 98.39 | 87.29 | -11% |
| 9/24/1971 | 98.15 | 108.52 | 11% |
| 4/18/1973 | 111.54 | 93.75 | -16% |
| 12/1/1976 | 102.49 | 94.69 | -8% |
| 12/13/1978 | 96.06 | 107.67 | 12% |
| 4/22/1980 | 103.43 | 133.94 | 29% |
| 7/2/1981 | 128.64 | 107.65 | -16% |
| 2/3/1984 | 160.91 | 180.35 | 12% |
| 11/18/1986 | 236.78 | 245.55 | 4% |
| 11/5/1987 | 254.48 | 276.31 | 9% |
| 2/26/1990 | 328.67 | 362.81 | 10% |
| 9/7/1990 | 323.40 | 388.57 | 20% |
| 4/19/1994 | 442.54 | 505.29 | 14% |
| 9/29/1998 | 1,049.02 | 1,282.71 | 22% |
| 11/4/1999 | 1,362.64 | 1,426.69 | 5% |
| 10/30/2000 | 1,398.66 | 1,118.86 | -20% |
| 8/18/2004 | 1,095.17 | 1,219.02 | 11% |
| 7/19/2006 | 1,259.81 | 1,541.57 | 22% |
| 12/21/2007 | 1,484.46 | 863.16 | -42% |
| 7/2/2010 | 1,022.58 | 1,337.88 | 31% |
| 8/12/2011 | 1,178.81 | 1,403.93 | 19% |
| 8/28/2015 | 1,988.87 | 2,176.12 | 9% |
We were once a believer of this technical pattern. However, being skeptical of the conventional wisdom coupled with data analysis, we're able to conclude that the Death Cross is not so deadly after all. So the next time you see this term used to instill fear of a impending market crash, be sure to think twice about liquidating all your holdings.
Sources:
- Investopedia - Death Cross Definition