Qualcomm Inc. (NASDAQ: QCOM) has been hit with a major bearish signal popularly known as the Death Cross. This technical signal is widely watched the world over by analysts and investors alike and tells that a bear market could be on the horizon. In this article, I will present a view different to what is commonly shared by the market participants. I hope this will help clear any and all confusion regarding this much-dreaded signal.
A death cross is the crossover of a security's short-term moving average below its long-term moving average. Generally, traders use the 50-day SMA as the short-term moving average and the 200-day SMA as the long-term moving average. Since the short-term moving average crosses the long-term moving average on the downside, it indicates that the trend has shifted in the favor of the sellers and that a new bear market may be coming.
This feared signal grabbed major headlines and received the attention of many traders and analysts when it signaled a market top in 2008. From the daily S&P 500 (NYSEARCA: SPY) price chart below, it can be seen that a death cross was witnessed just before the market crashed in 2008, causing more than 50 percent in losses to the investors.
Now as simple as it may seem, it is really unfortunate that many participants do not know how to properly interpret this signal. Blindly trusting the death cross or any crossover for that matter to indicate a market reversal is a loss-inviting strategy. It may work temporarily but is bound to cause huge losses in the long term.
Qualcomm registered a death cross yesterday when the stock's 50-day SMA of $60.92 closed below the 200-day SMA of $61.09.
I think it would be a foolish mistake to sell QCOM now. To support my thesis, I will evaluate the six death crosses which occurred from 2008 to 2015.
The daily QCOM price chart below has all the death crosses marked since the last recession roiled the market. As one can easily see, the bearish crossovers 3, 4, and 5 were massive failures. The number 2 death cross could be counted as neutral as following the death cross, the stock first jumped more than 15 percent (enough to give shorts a run for their monies) before going down. The No. 1 death cross witnessed during the financial meltdown was clearly a risky bet - like it is now - since the stock had already collapsed approximately 30 percent. The best example for using the death cross is marked as No. 6.
Death crosses are most effective when the market or the stock has run up quite a bit, making the valuations expensive to sustain. We saw the same with the market in 2008 and with QCOM in the four-year bull run since mid-2010 to mid-2014. In 2014, QCOM wasn't really cheap having given a 150 percent return in the four-year period.
Essentially, utilizing a death cross to exit or short a stock is best applicable when the valuations are expensive. Thankfully, for QCOM, the valuations are very conservative. For a helpful insight into the company's valuations, please read Qualcomm: Should You Be Fearful Or Greedy? This would ensure that one does not make the naïve mistake of selling or shorting QCOM now when the company is still reasonable to buy a stake in.
This is not to say that the stock cannot face renewed selling pressure or find it harder to climb up. I'm not expecting the stock to shoot up immediately. In fact, I'm bracing myself for the heightened volatility that I expect given the broader market's unrelenting run-up. With a beta of 1.45, QCOM will be the victim of the vicissitudes of the market. But it is still not reason enough to sell the stock.
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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.