The last two hundred days
15 June 2009
Sean Russo
USD spot gold vs its 200dma.
READERS of previous columns and clients of Noah’s Rule will know we put little faith in forecasting. Some “experts” get it right for a while and become the champion of a particular market movement for a while but the invariably flame out. Anyone heard of Abby Cohen lately?
Then of course you have consensus forecasts where to protect us, the crowd, from the risk of any one forecaster they take a broad poll and give us the average view of the crowd, fabulous! Fabulous, as a contrary indicator more often than not!
It seems to me that the great majority of forecasters simply identify the trend currently prevailing, predict it will continue and then only look for the confirming data in that which is available to support their view. Not a bad idea on the surface because we all know the old maxim: “The trend is your friend”. The problem is that the longer version of that maxim is: “The trend is your friend, until it ends”.
What we all know to be true is that when it comes to investment, trading or risk management, timing is everything. As someone once quipped, “don’t tell me what to buy, tell me when to buy it”. Equally it could be, “don’t tell me what to sell, tell me when to sell it”. Long or short, recognising the prevailing trend is important. When a trend has been well recognised by many and been entrenched for an extended period being one of the first to recognise when it has changed is even more important. Why? Because as we have seen, time and time again, markets go “up the stairs and down the lift shaft”.
Identifying the medium to long-term trend is relatively easy, the market closes higher (or lower) week upon week. The media is all one way; the market moves with the trend on “good” news and ignores “bad” news (or vice versa); and, you can generally draw a pretty good line underneath (or above) the price data on the chart or there is a strong line of best fit.
Realistically, no given day or week should be given too much importance. Markets are about supply and demand and the price equilibrium can easily be disturbed for a week or two if there are large one sided flows that need to be digested. It is for this reason that I believe moving averages are one of the simple tools available to help remove the noise around price and help to identify the trend and when it is changing in nature.
A simple moving average is just that, simple. Calculate the average of the last 200 days closing prices and plot it against today’s price. If the price today is higher than the price 200 days ago the average will go up. That will also be the case if the price today is higher than the average of the previous 199 and vice versa. Importantly, the moving average can’t move too far on any one days close. As a consequence such a simple moving average is slow to change direction and it is more akin to the rhythm of the market or its deeper character that can’t be swayed by a few weeks of this or that.
Of the limitless number of different averages you can calculate the two hundred day moving average (“200dma”) has gained almost mythical status in some quarters. Even if you wish to dismiss the concept as mumbo jumbo you should know there are literally millions of people watching the dance the markets and their 200dma are doing. Why 200 days? I’m not sure, there are others that certain markets seem to favour but this last few weeks the web and various TV and broker reports have been full of the news that most of the major international equities markets have crossed up through their 200 day moving average over the last few weeks, “green shoots” from the charts.
EUROUSD average and the 200dma.
At the simplest level these “breaks” through the 200dma are not enough to signal a change in trend, the true believers want rising prices and a rising moving average (and by their nature they will take a while to turn) but breaks through a long term average like the 200dma do signal a significant change to the downtrends character. Up to now the equity markets have not been able to get back to the 200dma let alone through it because fresh selling came in well before any rally reclaimed that price level. Short sellers of equities beware. In fact everyone beware because long term averages and prices going in opposite directions often end up being very messy affairs for all concerned.
When they were in strong uptrends most of the metals markets held above their 200dma’s for several years and then within weeks or months of breaching it they nearly all collapsed quite spectacularly, often around the time the average itself turned down. Think about it this way, everyone who had bought in the last 200 days was on average losing money. Their running for cover tipped the balance.
Gold had remained stubbornly above its 200dma for several years until it broke down in August 2008 at around 890 USD/oz, within three months it traded at 700 USD/oz. The average now sits at around 870 USD/oz so despite the recent attempt at 1000 USD/oz the 200dma has actually been trending lower over the last 12months. While we hold above the 200dma the market remains positive. This level must always be respected simply because so many look at it but now more than ever tread cautiously, the gold market is heavily long and bullish sentiment is at close to extreme levels. Equally the USD is below its 200dma and has near record bearish sentiment. For now that’s supportive for gold.
So far so good, but watch those 200dma’s.