When it comes to technical analysis, one of the necessities for success is the moving average. In fact, for years, I’ve personally relied on two of them – the 50-day and even the 200-day moving averages.
Each is powerful because they give us a view of a stock’s trend, as well as a look at where we may find support and resistance along the way. For example, if I find a stock that historically bounces every time it hits its 50-day moving average, I’m likely to buy on a test of that moving average.
That’s because, as they say, the trend is your friend.
A lot of institutional buyers will typically wait to buy at the 50-day, too.
For instance, look at shares of NVIDIA Corporation (NVDA). Between May 2016 and July 2017, nearly every time the 50-day moving average was challenged, the stock bounced. Granted, it broke the trend in February 2017, but we can see that once it broke back above the average, the trend resumed.
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Or, if I find that a stock just broke a long-standing moving average, I may be more inclined to trade a potential move lower in the stock. The trend may have been broken.
For years, the iShares NASDAQ Biotech ETF (IBB) traded firmly along its 50-day moving average. Then all of a sudden, things fell apart. The moment the 50-day was broken, the bears took control, sending the ETF from a high of $400 to $240 in months.
So it’s essential that we watch the moving averages.
We want to be well aware of the potential shifts up or down in a stock.
We can even use crossovers to tell us when things may be about to shift in one direction or the other. Of course, we’d never just rely on averages to buy or sell anything. We definitely want to confirm with other indicators.
But let’s take a look to see what happens when we have crossovers.
Look at the Dow Jones Industrials for example. Look at what happens when the 50-day crosses above the 200-day longer moving average. The index moves higher. But look at what also happens with the 50-day crosses below the 200-day. The index fell.
Granted, moving averages aren’t the perfect indications of trend change, but they can give you a general sense of where to spot good opportunity.
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