The 200-day moving average of prices is probably the most widely-watched indicator in the market.

Like many popular indicators, there’s nothing special about it other than the fact that it’s so widely-watched. Its popularity gives it something of a self-fulfilling prophecy effect.

Still, the beauty of the indicator is its simplicity. It creates an agreed upon line in the sand. If a stock’s price is above the average, most investors get bullish. If it’s below, the market gets bearish.

It’s a layman investor’s question and a layman-style answer.

I go a bit deeper…

In my effort to judge the market’s underlying strength, I’m most interested in how many stocks are currently trading above their 200-day moving average. If a large portion of stocks are above that average, it proves the market’s underlying strength. When the percentage of stocks over their 200-day moving average falters, I pay closer attention because that is often a warning of underlying weakness.

Yesterday I talked about the stock/bond ratio indicator, which is currently signaling potential weakness ahead. With this in mind, I’m looking for confirmation in other market indicators.

Here’s a weekly chart of the S&P 500, along with an indicator showing the percentage of stocks currently trading above their 200-day moving averages.

See larger image

As you can see, 85.6% of the stocks in the S&P 500 are now trading over this line in the sand. This is a bullish sign, for now.

What’s more, the indicator is trending upward – making higher highs and higher lows – as the stock market itself makes higher highs and higher lows. This is confirmation of the market’s underlying strength.

That said, the 200-day moving average is a slow warning system. Stocks could stumble a meaningful distance before crossing below their averages. Now is the time to be vigilant… we must watch this indicators for signs of weakness.

I’ve drawn a dashed line, through the 200-day moving average indicator, at the 75% level. When fewer than 75% of stocks are above their 200-day moving average, I’ll be concerned about fundamental weakness in the broad market.

As I said yesterday, we’re at an important turning point. We can’t get jumpy and pull the trigger too early, but we certainly can’t be complacent here either. We should have a clearer picture within a week or so.

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Adam O'Dell
Adam O'Dell has one purpose in mind: to find and bring to subscribers investment opportunities that return the maximum profit with the minimum risk. Adam has worked as a Prop Trader for a spot Forex firm. While there, he learned the fundamentals of trading in the world’s largest market. He excelled at trading the volatile currency markets by seeking out low-risk entry points for trades with high profit potential. An MBA graduate and Affiliate Member of the Market Technicians Association, Adam is a lifelong student of the markets. He is editor of our hugely successful trading service, Cycle 9 Alert.