Global developed stock markets, as represented by the MSCI World Index, have risen by more than 75% from the March 2009 low to the mid-January 2010 high. Emerging markets, as represented by the MSCI Emerging Markets Index, showed an even more stellar performance with a rise of more than 116%. Since the January highs, these two indices have declined by almost 7% and 10% respectively.

After such a huge recovery and the subsequent pull-back, investors are asking what is likely to happen next. Dr Prieur du Plessis, Plexus group chairman, puts the current situation in perspective.

According to Du Plessis, the day-to-day movements of a stock market are random, so it is necessary to look at longer periods to determine the market trend. An important tool used to establish a trend is a moving average. The moving average of a stock market index or share price is the arithmetic average of the prices over a certain moving time frame, for example 50-day periods from 1 September to 1 December, from 2 September to 2 December, and so on. A moving average smoothes out the daily price fluctuations and reveals an emerging trend.

“The time frame used for calculating the moving average can show short-term and long-term trends,” says Du Plessis. A 50-day moving average usually depicts a short-term trend in the market, while a 200-day moving average shows a long-term trend.”

Plexus Asset Management recently conducted an analysis to establish the trend of global stock markets, determining what percentage of markets are trading both above and below their 50-day and 200-day moving averages. This was done for both developed and emerging markets, plotting the developed markets’ moving averages against the MSCI World Index and emerging markets’ moving averages against the MSCI Emerging Markets Index.

“Findings reveal that the long-term trend in global markets still depicts a bull market (Graph A),” says Du Plessis. “Looking at developed and emerging markets separately, the trend is similar.”

“Over 80% of developed markets and over 90% of emerging markets are trading above their 200-day moving averages,” he says. “This is in stark contrast with the period between October/November 2008 and February/March 2009, when none of the markets analysed were trading above their 200-day moving averages. This period represented an excellent buying opportunity for the long-term.”

The short-term trend is more bearish, with less than 10% of the developed markets and less than 20% of emerging markets trading below their 50-day moving averages and close to levels that depict strong short-term buy signals. “Both developed and emerging markets have come off very high levels, with especially the developed markets looking close to bottoming out,” says Du Plessis.

According to Du Plessis, an analysis of the South African market reveals a similar picture (see accompanying Graph B). “The percentage of South African equities trading above their 200-day moving average is just below 80%, indicating that the long-term bull market is still intact. The shorter-term trend indicator showing the percentage of equities trading above their 50-day moving average dipped to below 50%, but appears to be bottoming,” he says.

Du Plessis warns that the 50-day moving average is a short-term trend indicator and this could mean the current bounce may be short-lived. “The long-term investor would be wise to exercise caution as markets are not cheap and there are still risks to the economic recovery.”

“There could be further pull-backs or at least more volatility in the short term,” warns Du Plessis. “Rather phase a lump sum into the market over the next few months.”

Graph A

Graph B