Moving Averages
The crossover of price and a moving average is by far the most important of
the three forms listed above. It is the only one that represents price confirmation
of a breakout or trend change and as such represents a trade trigger. The remain-
ing two forms are merely signals that add to the evidence that the market is bull-
ish or bearish.
Nevertheless, it may sometimes be better to employ a double moving average
crossover in lieu of price crossing over its moving average as a trade trigger. This is
because a double moving average crossover is less susceptible to whipsaws. A triple
moving average crossover may also be employed as a trigger where trades are scaled
in, as each faster moving average crosses above or below a slower moving average.
Two of the most popular indications of potential trend change via the use of
crossovers are the Golden Cross and the Death Cross. Conventionally, a golden cross
occurs when a shorter-term moving average (50 day SMA) crosses over a longer-
term moving average (200 day SMA). It is seen as a bullish sign. See Figure 11.25 for
double moving average crossover signals based on the 100- and 200-day SMAs.
A death cross occurs when a shorter-term moving average crosses below a
longer-term moving average. It is seen as a bearish sign. Conventionally, it is based
on a 50-day SMA crossing below the 200-day SMA. See Figure 11.26.
Another popular form of crossover that generates buy and sell signals is the
Open-Close Moving Average Crossover. Two SMAs (or EMAs) are created, with
one SMA based on opening price and the other on closing price. Whenever the
SMA of close prices crosses above the SMA of opening prices, a buy signal is issued.
Conversely, whenever the SMA of close prices crosses below the SMA of opening
prices, a sell signal is issued. See Figure 11.27. We see this crossover as a fairly ef-
fective indicator of price change.
In Figure 11.28, we observe the triple moving average crossovers diverging
whenever there is a strong trend present and with crisscrosses, or whipping each
other, when the markets are ranging.
Trading with moving averages is fairly easy if there is a strong trend in effect.
Buying as price crosses above the moving average and selling as price crossesfigure 11.25 Golden and Death Crosses on the Daily Chart of Apple Inc.
Courtesy of Stockcharts.com