Who's afraid of a death cross?

Some analysts or pundits have questioned the relevance of the death cross. Among them is Mark Hulbert, a highly-regarded columnist for Market Watch who wrote an article entitled "The kiss of the death cross". To wit:

It turns out that the death cross has had a mediocre track record at best over the last two decades. To be sure, it's had some great recent successes -- such as the one that occurred in December 2007, very early in the 2007-2009 bear market. But there have been a number of other failures -- such as one that occurred in October 2005, in the middle of the 2002-2007 bull market.

Overall, in fact, there has been no statistically significant difference since 1990 between the average performance following death crosses and all other market sessions.

Like many technical signals, the death cross is not a sure thing. Death cross is derived when the 50-day SMa line crossed below the 200-day SMA line. Like the moving average line & MACD indicator, the death cross (as well as its more favorable cousin, the golden cross) works well in a trending market. In a volatile & non-trending market, oscillators such as RSI & Stochastic are more accurate. I have attached below the daily chart for DJIA from July 1998 up to yesterday. During this period, the DJIA experienced prolonged period of volatile sideway trading (from 1999 to 2001 and from 2004 to 2006). In these two periods, I have counted about 8-10 death/golden crosses. However, a death/golden cross is more accurate after a prolonged period of trending market. (For a clearer chart of DJIA, go here).


Chart 1: DJIA's daily chart as at July 12, 2010 (Source: Yahoo Finance)

For a different view of the efficacy of the death cross, check out the article entitled "New Long-Term Sell Signal Generated" written by highly-regarded technical analyst, Carl Swenlin of Decision Point. His conclusion is worth careful reading. To wit:

Bottom Line: A new long term stocks SELL signal has been generated based upon a “death cross” (opposite of “golden cross”) of the 50- and 200-EMAs. Decisions in the intermediate and short term now need to take this into account. Nevertheless, short term indicators continue to be bullish and and there are now positive divergences on medium-term indicators. So we have a positive theme developing in a negative longer-term context, but we should consider it to be a temporary development.

I have appended below the daily chart for MSCI World Index. We can see a death cross has just happened. There were 5 death/golden crosses in the past 12 years. Except for the death/golden cross recorded in 1998 [denoted as C], all the other death/golden crosses [denoted as A, B, D & E] have accurately predicted the next direction of the market.


Chart 2: MSCI World Index's daily chart as at July 14, 2010 (Source: Rubbernet)

Finally, I have also appended below the table of the Global Market Indexes which shows that 11 out of the 16 indexes being tracked have flashed a death cross.


Table: Global Equity Indexes as at July 14, 2010

Based on the presence of death cross in many equity markets, we must act cautiously in this market. However, the current short-term bullishness may present some opportunity if you are a nimble trader.