Does the 200-Week Moving Average Line Make Any Sense?

Moving averages should relate to fundamentals in some way.

I have a view on the subject of moving averages. Not everyone will agree with it but I am OK with that.

Let me explain.

I entered the securities business in 1973 after graduating with a BA degree from the University of Connecticut. In 1972, I helped one of my finance professors edit his book Security Analysis and Portfolio Management, which included a chapter on technical analysis. In the book there was a brief mention of the 200-day moving average line referring to the work by Joseph E. Granville in the 1960's.

The 200-day moving average line is close to the number of trading days in a calendar year and it has a long history of being used by equity technicians. Futures traders have a shorter time horizon because of the leverage in those markets but they also began to use the 200-day moving average after 1982 when stock index futures began to trade.

In 1977, I was working as a futures broker and called on the purchasing department of Unilever (UL) . The company purchased large quantities of soybean oil for margarine and salad dressing. They had a large chart of soybean oil on their office wall with a four-month moving average line.

I was new to the business and asked why a four-month moving average when futures traders used things like the 4-9-18-day moving averages or the 10- and 20-day averages. Their answer was simple and meaningful -- four months was the shelf life of margarine.

My lesson from this: moving averages should make some fundamental sense. A 12-month moving average on housing starts or some other monthly economic data. A 65-day moving average line because it is a quarter. Or a 15-month moving average line on cattle prices.

On CNBC this Monday morning a noted strategist from Morgan Stanley (MS) talked about the S&P 500 and the 200-week moving average line. I am totally perplexed on how this time frame relates to anything. Sorry.

In this long-term weekly chart of the S&P 500 we can see how the 200-week moving average line looks. Is this curve fitting?

 

Bottom Line

Over the years I have seen critics of technical analysis rail on about the use of trendlines saying they are subjective and if you "draw enough trendlines are going to be right at some point in time."

 

A similar complaint can be leveled at the use of moving averages in that some time frame will give you the answer you seek. Let's not torture the data to give us the answers we want.

 

For me, I am reminded of an old middle-eastern saying:

 

"If you truly seek wisdom, you will visit all the tents in the marketplace."