If you hate Moving Averages, odds are you don’t know how to use them. Combined with knowledge of price-action, they are an invaluable tool. In this article, I’ll show you how to harness the power of the 20 and 200 Day Moving Averages.
A moving average is a stock's average price over a certain time period.
That time period can be anything from minutes to days to weeks to months to quarters to even years.
A daily moving average is the average of a stock's daily closing prices over a specified number of days.
The 20 day moving average is the average closing price of a stock, ETF, or other asset over the last 20 days.
Each day it changes because the oldest closing price gets removed, and the newest one is added.
That's how simple moving averages are calculated.
Exponential moving averages use a formula to give a greater weight to recent prices, which is beyond the scope of this article.
Moving Averages are directional guides that speed up the technical analysis of trends.
If the moving average is pointing up, you know the stock is bullish. If it’s pointing down, you know the stock is bearish.
They are superior tools in uptrends and downtrends, and their importance in sideways trends is greatly minimized. In this article, I’ll show you how to use them with sideways trends.
When using moving averages, the color should be consistent across multiple timeframes. The type of moving average doesn’t matter, but it should be the same on all time frames.
The 20 day moving average is one of my powerful tools.
When Stocks are about to transition up, the 20 day Moving Average with start to hug price and curve up. That is your indication that the stock is about tot transition.
So, even if the trend is sideways, keeping an eye on the moving average will tell you when the sideways trend is breaking.
In these examples, the moving averages alert you to the higher-low, which indicates that the stock is about to breakout.
I call this “the halt”: when the stock stops criss-crossing the MA and begins to respect it.
The MA applies to every timeframe the same way.
The only exception is the daily, which has gaps.
While the moving average is going through price, don’t touch the stock. When it starts to point up, it’s indicating that the stock is going higher.
In this example, we see the stock bouncing off of the 20MA on the uptrend. When the retracement breaks the 20, the next several retracements also break it. The 20MA is no longer relevant as the stock goes sideways. This is anindication that the trend is over.
What does the Slope or Angle of the 20 Day Moving Average mean?
The slope or angle of the 20MA is indicative of the strength or weakness of the underlying stock!
A 45 degree angle is ideal.
Here is an example of an ideal Rising 20MA slope.
Here is an example of an ideal Declining 20MA slope.
Here, the MA starts at a 45 degree angle, but becomes steeper (unsustainable), and tops out:
The odds are much higher in the direction of the MA.
However, we do not enter because price is near the 20MA. We must have a tradable pattern
Now let's talk about the 200 day moving average.
The 200 day moving average is the average closing price of a stock, ETF, or other asset over the last 200 days.
As with the 20 day, the 200 day moving average changes every day because the oldest closing price gets removed, and the newest one is added.
While the 20 moving average is most powerful when it’s trending, the 200 day moving average. is strongest when it’s flat.
Think of the 200 moving average as a floor to stocks above it (support) and a ceiling to stocks below it (resistance): a level floor is always preferable to a slanted one.
Support: When price is declining towards the 200 moving average
Resistance: When price is rallying up towards the 200 moving average
This is especially true if the stock was extended. Even more if the stock was extended and put in 3+ consecutive green or red bars to the 200MA.
Here, you see the 200 moving average (the red line) acting as support after the stock gaps up and as resistance after the stock gaps down:
-Look to buy stocks in an uptrend that base at or near the 200MA as soon as the rising 20MA catches up to price
-Alternatively, look to short stocks in a downtrend that base at or near the 200MA as soon as the declining 20MA catches up
This is a very effective for long term trading.
We hope you enjoyed this powerful lesson on moving averages. Make sure you pick up my ebook below to learn even more about technical analysis.