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.
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.