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This distinctive indicator has accurately predicted the direction of the S&P 500 18 out of 18 times since 1945.
For more than a century, Wall Street has proven to be a formidable engine for wealth creation. While other asset classes like real estate, bonds, and commodities have facilitated investor growth, none achieve the sustained annualized returns seen in equities over lengthy periods.
However, the historical superiority of Wall Street in long-term returns does not exempt stocks from facing periods of volatility.
Recently, the Dow Jones Industrial Average (^DJI), the benchmark S&P 500 (^GSPC), and the tech-heavy Nasdaq Composite (^IXIC) have all experienced declines exceeding ten percent. The Dow and S&P have entered correction territory, while the Nasdaq officially entered a bear market on April 8.
April saw significant volatility for these major indices, including the S&P 500 recording its fifth-largest two-day decline (10.5%) in the last 75 years from April 2 to April 4, as well as its biggest single-day point gain in history on April 9.
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In times of significant market fluctuations, it’s common for investors to seek forecasting tools to gain insight into potential future movements of major Wall Street indices. While no tool can guarantee precise predictions, a handful of metrics have shown a strong correlation with subsequent changes in the Dow, S&P 500, and Nasdaq Composite over time.
On April 24, a notable Wall Street event occurred for only the 19th time since 1945, boasting a perfect record in forecasting the direction of stock movements.
Current Market Sentiment: Fear and Uncertainty
Before diving into this rare forecasting event that could encourage investors, it’s essential to discuss the elements creating fear and uncertainty that have led to substantial point and percentage swings in the indices since April commenced.
One significant factor contributing to market volatility has been President Donald Trump’s tariff policy. On April 2, Trump introduced a 10% global tariff alongside higher “reciprocal tariffs” on various nations historically running trade deficits with the U.S. As of April 9, these reciprocal tariffs are on a 90-day pause for all nations except China. While the aim is to boost revenue, safeguard American jobs, and enhance the competitiveness of U.S. goods, several unintended consequences could arise.
Wall Street’s major stock indices have fluctuated significantly following Trump’s tariff announcements. ^DJI data by YCharts.
One concern is the possibility that inflation rates may reaccelerate. While investors celebrated the reduction of peak inflation from over 9% in 2022 to less than 3% currently, the ambiguity of Trump’s input and output tariffs could inadvertently escalate prices, diminishing the price competitiveness of domestically produced goods against imports.
Additionally, the administration’s inconsistent messaging relating to tariffs and their rates has heightened investor unease.
The market has also been reactive to fears regarding rising long-term Treasury bond yields, along with a weakening outlook for the U.S. economy.
Although higher Treasury yields may benefit conservative investors seeking income, they also imply escalating borrowing costs, which can adversely affect consumers and businesses alike.
Moreover, the Atlanta Federal Reserve’s GDPNow forecast has projected a 2.5% contraction in the U.S. economy for the first quarter, as of an update on April 25. Such a steep decline hasn’t been observed in a non-COVID-19 pandemic quarter since the Great Recession ended in 2009.
Image source: Getty Images.
A Unique Event with a Perfect Prediction Record
It is important to note that there is no definitive timeline for when the uncertainties surrounding tariffs and the U.S. economic outlook will stabilize. Predicting short-term equity market movements based solely on daily headlines often equates to a guessing game.
Nevertheless, occasions arise when a correlational event possesses such a high success rate for predicting stock movements that it demands attention from investors.
On April 24, the Zweig Breadth Thrust (ZBT), devised by renowned stock market analyst Martin Zweig, was triggered for only the 19th time in 80 years. The ZBT is a momentum-driven tool measuring the ratio of advancing stocks to the overall number of advancing and declining stocks, a concept commonly known as “market breadth.”
The ZBT is activated following a rapid advance in equities, which historical trends suggest occurs frequently near significant declines in the Dow, S&P 500, and Nasdaq Composite. The trigger occurs when the 10-day moving average of advancing stocks on the New York Stock Exchange escalates from below 40% to beyond 61.5% within ten trading days, coupled with rising volume.
What is particularly striking is the performance of the benchmark S&P 500 following these ZBT triggers.
Why is the Zweig Breadth Thrust significant?
Since World War II, it has signaled 18 times, with the S&P 500 never falling at the 6 or 12-month marks afterwards.
As noted in a post by Ryan Detrick, Chief Market Strategist at Carson Group, the ZBT has accurately projected market conditions 18 times since 1945, with April 24 marking its 19th instance. The S&P 500 recorded gains 100% of the time at the 6-month and 12-month intervals following these triggers.
Past data further reveals that the average 12-month return post-ZBT activation was an impressive 24%, which is more than double the S&P 500’s long-term average annualized return near 10%. This suggests that the ZBT reliably indicates the onset of a new bull market or the continuation of an existing one following significant corrections.
It is crucial to acknowledge that while technical indicators provide valuable insights, they pale in comparison to the core elements driving business performance: actual operating results. Ideally, corporate earnings growth and a conducive atmosphere for businesses to innovate, hire, and expand create a stable foundation for stock market indices to rise.
Despite this, the ZBT exemplifies the potential for optimism and the invaluable nature of time for investors. No matter how troubling short-term headlines may appear, the consistent long-term growth of the U.S. economy and the companies benefiting from such growth serve as robust drivers for pushing stock valuations higher.
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