Technical analysis (trading based on stock chart patterns) has always been a hotly debated investment tactic. Although fundamental analysts may denounce it as junk science, to this day it still has many advocates in the trading shops of Wall Street.
Resistance levels, support levels, triangle patterns, double tops, head and shoulders, moving averages, etc. are among the price patterns that technical analysts can study to anticipate and benefit from future market movements.
We looked at a particular form of technical analysis (moving averages) to assess how it has performed over the decades.
80s nostalgia?
We built two portfolios that went long on the S&P 500 when it was trading above its moving average and shorted it when it was trading below. One portfolio was built on a 50-day moving average, the other on a 200-day moving average.
As a strategy, buying the market on days when it eclipsed its 50-day moving average generated average daily returns of 0.11% to 0.18% over the six decades surveyed, with the highest mark achieved in eighties Buying the market on days when it fell below the moving average resulted in an average daily return of -0.14% to -0.28, with the 1980s also accounting for the biggest losses.
To give you an idea of the magnitudes here: If an investor bought every day the market broke above its 50-day moving average in the 1960s and dipped below it every day, that would give an average annual return of about 22% , while the S&P 500 generated a geometric mean return of 10% over the decade. This means an excess return of 12 percentage points. This outperformance was significant at the 1% level in all decades studied.
The 50-day moving average portfolio
| 1960–1969 | 1970–1979 | 1980–1989 | 1990–1999 | 2000–2009 | 2010-Current | |
| Average Daily Performance: Buy above the moving average | 0.11% | 0.14% | 0.18% | 0.17% | 0.17% | 0.15% |
| Average Daily Performance: Buy below the moving average | -0.22% | -0.14% | -0.28% | -0.20% | -0.22% | -0.20% |
| difference | 0.33% | 0.29% | 0.46% | 0.36% | 0.39% | 0.35% |
The 200-day moving average long and short portfolio produced similar, albeit quieter, results, with average daily returns ranging from a low of 0.16% in the 1970s to a high of 0.29% in the eighty
The 200-day moving average portfolio
| 1960–1969 | 1970–1979 | 1980–1989 | 1990–1999 | 2000–2009 | 2010-Current | |
| Average Daily Performance: Buy above the moving average | 0.06% | 0.08% | 0.09% | 0.09% | 0.10% | 0.08% |
| Average Daily Performance: Buy below the moving average | -0.15% | -0.07% | -0.20% | -0.16% | -0.11% | -0.14% |
| difference | 0.22% | 0.16% | 0.29% | 0.25% | 0.21% | 0.22% |
Of course, moving average traders recommend buying stocks immediately after they break out, or crossing the trendline and shorting them as soon as they break below the trendline. So how did this “crossover” strategy work?
Over the decades, the long-short 50-day moving average strategy produced average daily returns of 0.44% in the 1960s and 2000s to 0.70% in the 1970s.
50-Day Moving Average: Crossover Strategy
| 1960–1969 | 1970–1979 | 1980–1989 | 1990–1999 | 2000–2009 | 2010-Current | |
| Average return one day after crossing below | -0.24% | -0.35% | -0.22% | -0.18% | -0.14% | -0.30% |
| Average return one day after crossing over | 0.20% | 0.35% | 0.31% | 0.40% | 0.29% | 0.22% |
| difference | 0.44% | 0.70% | 0.53% | 0.58% | 0.44% | 0.52% |
Conversely, the 200-day moving average long and short portfolio averaged as low as 0.20% in the 1960s to 0.71% in the 1990s.
200 Day Moving Average – Crossover Strategy
| 1960–1969 | 1970–1979 | 1980–1989 | 1990–1999 | 2000–2009 | 2010-Current | |
| Average return one day after crossing below | -0.04% | -0.23% | -0.31% | -0.16% | -0.12% | -0.36% |
| Average return one day after crossing over | 0.16% | 0.10% | 0.17% | 0.55% | 0.20% | 0.12% |
| difference | 0.20% | 0.33% | 0.48% | 0.71% | 0.32% | 0.48% |
Although these moving average strategies have yielded excessive returns, this return is not without risk. Specifically, there is considerable volatility in the crossover below the moving average, as well as skewness in some cases. Perhaps higher returns are investors’ compensation for taking on excess risk, or perhaps just a form of momentum risk.
All in all, while the returns associated with these moving average strategies may be lower than the heyday of the 1980s and 1990s, there may still be alpha to be gained in our modern markets.
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All posts are the opinion of the author. Therefore, they should not be construed as investment advice, nor do the views expressed necessarily reflect the views of the CFA Institute or the author’s employer.
Image credit: ©Getty Images / Torsten Asmus
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Derek Horstmeyer
Amine El Boury
Drew Hardin
