Stocks have been described as a rubber band, and we often assume they will snap back and revert when prices become overextended. We wanted to know: How likely is a security to continue or reverse its momentum above and below major moving averages in short, medium, and long-term timeframes? Does the security’s proximity to a moving average impact its performance?

We researched 20 years of data on 286 symbols, using short, mid, and long-term trends to analyze the ticker’s 30-day return relative to its simple moving averages.

A simple moving average is a set of inputs where each price is added together and divided by the total number of data points. Simple moving averages are used to identify price trends over a specific time horizon.

Analyzing SPY

To create a baseline for our analysis, we looked at the performance of the broad market and how often it stretched above and below different moving averages. 

The S&P's movement appears relatively tame. While there are periods of volatile activity, extreme price action is an outlier. Typically, SPY tends to gravitate within a few percentage points above or below 0%.

What we found is that it's quite rare for SPY to be more than 10% from its simple moving average:

• 99.38% of the time, SPY was within 10% of its 15-day SMA
• 98.61% of the time, SPY was within 10% of its 30-day SMA
• 97.98% of the time, SPY was within 10% of its 50-day SMA
• 96.17% of the time, SPY was within 10% of its 100-day SMA

Moving average data: 20 years & 286 tickers

Once we had a baseline, we ran additional analysis on 286 tickers, using price data from June 2002 - June 2022 (~ 5,000 trading days per ticker). The metrics below are averages of all underlying symbols in the sample.

It’s important to note that there may be some survivorship bias because we didn’t include tickers that went bankrupt, merged, went private, etc. Therefore, the 286 tickers we tested may be subject to positive drift since we only tested companies that survived the whole 20-year testing period.

We calculated 5, 15, 30, 50, and 100-day simple moving averages for each ticker symbol. Using that data, we calculated the number of times the stock’s price was above or below the moving average to determine how far price stretched from the averages. 

We observed how often a ticker was 5%, 10%, 15%, and 20% above or below the major moving averages.

We then calculated the average 30d return for each occurrence. For example, across all 286 tickers, the average 30d return when price is 15% below the 100d SMA was +5.43%.

Significant separation from major moving averages becomes rare when looking at shorter moving averages.

Moving below a short-term moving average requires a fast, volatile drawdown. While these occurrences are rare, they are often followed by large reversals. For example, tickers only drop 20% below the 5d SMA on 0.06% of trading days, but the average 30d return following that observation is 36.72%.

Price tends not to extend as far beyond longer-term moving averages; this makes sense, as there are many more data points and the SMA is not impacted by short-term price action.

Momentum: Continuation vs. reversals 

The data suggests much different outcomes regarding momentum continuation above moving averages and price reversal below moving averages, specifically when looking at short-term vs. long-term moving averages.

15 and 30-Day Moving Averages

If a security is below its moving average, its price is likely to revert in the next 30 days. If it is above a short-term moving average, it will likely continue that trajectory with increasing momentum over the next 30 days.

You can see the same characteristics with the 30-day moving average, but the variance between the movements starts to compress. We see increasing momentum across the 30-day moving average stretchiness. But the rate at which it increased momentum was not as great.

Still, trend reversals are impactful. The average return when a security is 10% below its 30d simple moving average is 5.09% over the next 30 days.

50 and 100-Day Moving Averages

A security is more likely to snap back over the next 30 days across this testing period if it gets really stretched below its 50 or 100-day period. Returns improve as the security is more extended to the downside.

However, when 15% above the 50-day moving average and 20% above the 100-day moving average, the 30-day average return actually starts to drop. The momentum declines the farther it extends above the moving average.

Biggest takeaways

Every time the market moved and overstretched below its moving average, it was more likely to snap back and revert in the opposite direction, especially in short time frames and larger drawdowns. By far the best return over the 30 days is when a ticker is more than 20% below its 5-day moving average, but, again, that is a rare occurrence.

The reversals from dramatically oversold readings are somewhat intuitive. Stocks tend to go up, after all. The sustained upward momentum may be a little more surprising. As price exceeded the 5, 15, and 30-day moving averages, momentum actually continued to increase.  A market with no resistance can and will continue climbing. Momentum is real. But as price extended above long-term moving averages, momentum stalled. 

Interestingly, the 30-day average return is never negative, even when markets stretch 20% above major moving averages. Likewise, being 20% below the moving averages does not lead to negative average returns.