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19 November 2024 15h05
Source: Negócios

Stock markets: simple but robust technical indicators

Stock markets: simple but robust technical indicators

Business

 

Patterns are very important, helping us to understand trends. As Mark Twain said: "History doesn't repeat itself, but it often rhymes”. In other words, although historical events don't repeat themselves in exactly the same way, similar patterns tend to occur over time.


 

The 200-day moving average is a relevant indicator for gauging whether a security or a market is expensive or cheap. And this indicator becomes even more robust when you calculate the deviation of the price of a given financial asset from its 200-day moving average. This indicator is most effective in a geographically and sectorally diversified share index, eliminating the uncertainty of possible bankruptcies of individual companies. A global stock index is unlikely to collapse, and if it did, it would be due to something extremely serious and unprecedented, such as a third world war with nuclear weapons.

 

 

On the S&P 500, when the price is 15% above the 200-day moving average, i.e. a significant positive deviation, it is common to see a correction. When the deviation is sharply negative - i.e. when the S&P 500 is more than 15% below the 200-day moving average - buying opportunities arise which, in the long term, tend to be rewarding. It is normal for the deviation range to vary between [-15% to +15%]. However, the lower limit of the deviation can be even lower at times. As falls are generally faster and deeper, they can sometimes reach negative deviations of 30%, as during a few days in the Great Recession of 2008-09, and 25% in specific sessions in March 2020, during the sharp drop caused by the start of the pandemic.



Trading volume is also an important indicator for anticipating a market top or bottom. When the volume is high, the market tends to be supported, which can indicate further rises, and vice versa. Also, as a stock index falls and the volume traded increases, it is a sign that the low is near, and vice versa.

 

On July 30, 2002, the S&P 500 recorded the highest trading volume in its history, and the index's low was recorded two months later, on October 9, at 776.76 points, marking the turning point and the beginning of a recovery period after the collapse of technology companies in early 2000. In March 2020, during the shortest bear market in history - just 15 days - the S&P 500 recorded a low of 2237.4 points on March 23, and the highest volume was recorded on March 26.



There are two more simple but very robust patterns. The "Friday Indicator” reveals Friday's performance (the last session of the week) weighted by volatility, corroborating a more optimistic or more pessimistic sentiment, a more FOMO stance, or a growing fear in the market. The "Last Two Hours Indicator”, on the other hand, analyzes the last phase of the session, reflecting market sentiment and confirming whether investors are interested in maintaining positions for the following day.

 

Article by Paulo Monteiro Rosa Senior Economist at Banco Carregosa