By now, you’re well aware of how to find trends using simple moving averages, such as the 50- and 200-day moving averages. But you should also know how to potentially spot when a trend could stop dead in its tracks, or birth a new trend.
All we have to do is wait for a crossover to do so.
For example, we can spot a bullish “golden cross” when the short-term moving average, such as the 50-day crosses above the longer-term average, such as the 200-day. When this happens, we’ll typically see a move higher in a stock or an index.
There are three parts to the golden cross to watch for. First, a previous downtrend has to be coming to an end, as selling pressure dissipates. Second, the 50-day must cross above the 200-day. The last stage of the golden cross is a continuing uptrend.
Look at the Dow Jones Industrials for example.
After being demolished in January 2016, look at what happened to the index once the 50-day crossed well above the 200-day. The market rallied. We can see that the previous downtrend came to an end. We can see the 50-day did move above the 200-day by May 2017. And we can see a continuing uptrend following the golden cross.
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Or, we can spot the bearish “death cross” when the short-term average, such as the 50-day crosses below the longer-term average, such as the 200-day. When this happens, we’ll typically see a move lower in a stock or index.
It's the exact opposite of the golden cross.
In this case, a previous uptrend is coming to an end, as buying dissipates. The 200-day begins to move below the 50-day. The last stage is a confirming move lower. We can see that this happened in September 2015 and again in early January 2016 prior to an incredible move higher in the market.
Granted, crossovers can be late to the game, as we saw with a June 2017 crossover, but they’re still useful and important to be well aware of. Again, confirmation is key with other momentum indicators, too.
Of course, it’s never wise to just rely on crossovers to buy or exit a trade. We must always confirm with other indicators such as Bollinger Bands, MACD, relative strength, Williams’ %R, and money flow for example.
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