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TA Challenge: How do you identify trends with moving averages?
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JM investor joined discussion · Mar 15, 2022 12:20

Day 1 Technical analysis challenge: How do you identify trends with moving averages? (Part 1)

Hello everyone! I am late for the challenge but doing something late is better than not doing it at all, right?
Day 1 Technical analysis challenge: How do you identify trends with moving averages? (Part 1)
I will share my technical analysis challenge in 2 parts.

The first part is more on the fundamental, and is regarding my general ways of using moving avereage in my investing journey. Please also note that as the chart is not updated as I already prepared the posts a few months ago, however, the general principle and idea are still applicable to the current market. I am now rushing for the second part, which will be using the most updated chart, on how I use moving average in a bear market (technically, $Nasdaq Composite Index (.IXIC.US)$ has fallen into bear territory!)

In part 1, i will be sharing how i use moving average in my investing journey, and which areas we should avoid using it.
What is moving average?
The moving average, or MA, is the average price taken over a specific period of time. Most moving average is computed based on the closing price. If we are reading daily chart, MA20 means the average closing price of the last 20 days. If we are reading weekly chart, MA20 then signifies average closing price of the last 20 weeks. The time frame can be in minutes too.
Day 1 Technical analysis challenge: How do you identify trends with moving averages? (Part 1)
To me, I normally use simple moving average (SMA) for a longer time period, such as 50 (days or week) and above. For shorter time period, I prefer to use exponential moving average (EMA). EMA has a quicker reaction to the most recent price changes.Thus, EMAmoves much faster and it changes its direction earlier.
Day 1 Technical analysis challenge: How do you identify trends with moving averages? (Part 1)
Which period to use?
It depends on the personal preference and style. In general, for the short term trading, EMA9, EMA12 and EMA26 are generally used.
To me, as a long term investor, I will use EMA20 and 40 to identify a short-term entry to open a new position or swing trade, while SMA50, SMA100, SMA150 and SMA200 are used for a long term analysis. In general, the longer period we use, or more bounce happens on that particular SMA, it is considered as a strong support. For example, SMA200 is a stronger support compared to SMA150 and SMA100. But, EMA20 and EMA 40 are considered weaker support. In this chart, $Nasdaq Composite Index (.IXIC.US)$ tends to bounce at SMA100. Recently, MA150 is a very strong support to it. You may notice that EMA20 and EMA40 are very weak to hold the price.

Note:
EMA20= pink line
EMA40= light blue line
SMA50= dark blue line
SMA100= Orange line
SMA150= Green line
SMA200= red line
Day 1 Technical analysis challenge: How do you identify trends with moving averages? (Part 1)
Although each stock has its own preference to a certain moving average period too, but to standardize my analysis, I will stick to the same moving average to all my stocks. From the previous example, the moving average that I am using: EMA20, EMA40, SMA50, SMA100, SMA150 and SMA200, manage to fit the indices quite well. As most of the stocks move with the index, such as $Dow Jones Industrial Average (.DJI.US)$ , $S&P 500 Index (.SPX.US)$ and $Nasdaq Composite Index (.IXIC.US)$ , I will just stick to these moving averages in all my stock analysis.
By the way, as moving average is one of the most popular technical indicators used by many traders and investors, thus these numbers serve as an “emotional support”, as many of us are willing to buy the stock at these levels
Dow Jone Industrial chart
Dow Jone Industrial chart
How I use moving average?
1. Identify a trend.
If the moving average is sloping up and the candle stick is above it, it signifies the price is in an uptrend during that period. Similarly, if the moving average is sloping down and the candle stick is below it, it signifies the price is in a downtrend during that period. In general, this approach is more suitable for a long term analysis, such as SMA150 or SMA200.
Day 1 Technical analysis challenge: How do you identify trends with moving averages? (Part 1)
Please take note that a stock could have different type of trends in a certain period.
Using $Twitter (Delisted) (TWTR.US)$ as an example (Note: This is the chart a few months ago, not the updated one), it is in a long term up-trend, because its current price is above both MA150 and MA200. However, it is in a mid-term down trend as the price is below both MA50 and MA100, MA50 is also slopping down. However, in a short term trend, EMA20 and EMA40 are sloping up. Thus, $Twitter (Delisted) (TWTR.US)$ is now experiencing long term uptrend, midterm down trend and short term up-trend. Which trend to follow? Depends on your time target.
For example, if I am looking for an investment opportunity for a longer period that is more than 150 or 200 days, as long as the price and trend is above SMA150 and SMA200, I will just buy the dip as it is at a long term up-trend. However, if I am doing mid-term trading, or the swing trading, that is between 50-100 days, I will prefer not to buy anything because it is at the downtrend.
Day 1 Technical analysis challenge: How do you identify trends with moving averages? (Part 1)
2. Act as support and resistance.
Some stocks tend to rebound at a certain moving average.In an uptrend, MA acts as a support, and the stock will bounce and move higher.
Day 1 Technical analysis challenge: How do you identify trends with moving averages? (Part 1)
In a downtrend, MA acts as a resistance. The stock will hit the moving average and move downwards.
Day 1 Technical analysis challenge: How do you identify trends with moving averages? (Part 1)
3. Spot the trend reversal.
For instance, when the candle stick is crossing and closing above the SMA200 in its daily chart, it signifies a potential trend reversal. We can also using cross-over between 2 moving averages. For example, when SMA50 crosses above or below SMA100 or SMA150, it signifies a medium trend reversal. My favorite is using the cross-over of SMA50-SMA150. However, please take note that spotting the trend reversal of moving average is not equal to buy or sell to open a position.
Using $Ford Motor (F.US)$ as an example. During this period, the stock is at down trend and below SMA200. Then, we can see a cross-over of SMA50 to SMA150 here, signifies a potential trend reversal. After that, it moved above MA200, and the trend is moving upwards
Day 1 Technical analysis challenge: How do you identify trends with moving averages? (Part 1)
4. Dollar cost averaging. Moving average can serve as a critical support to help us to save bullet and conserve more cash. I have explained in detail how to do dollar cost averaging properly in one of my previous videos. Please watch this video if you are interested to know this.
https://youtu.be/cSB3iwfOK64
Day 1 Technical analysis challenge: How do you identify trends with moving averages? (Part 1)
5. Cut loss. If the trend is broken, we may consider to cut the loss.
Day 1 Technical analysis challenge: How do you identify trends with moving averages? (Part 1)
Hope till this part, you have learnt something new. Moving average is a powerful indicator to analyze the stock, such as trend analysis and buying point analysis.

However, do you know that there are some conditions that WE NEED TO AVOID when using moving average? Otherwise we may lose more money! Now, let us see when we should avoid using Moving average, or to take the extra precautions required.
1. Moving average is a lagging indicator.
Thus, it could not be used to predict the price movement. It will still need macroeconomic trend and company fundamental to support the stock price. For example, $Teladoc Health (TDOC.US)$ , only took 1 month to plunge through all SMA 20, 40 and MA50, 100, and 200, as the inflation fear, rate hike no longer manage to support the high valuation of $Teladoc Health (TDOC.US)$ .
Day 1 Technical analysis challenge: How do you identify trends with moving averages? (Part 1)
2. Shorter term moving average is weak.
Using Microsoft daily chart as an example, SMA150 is a strong support. However, EMA20 and EMA40 do not really act like support and resistance in this case. The stock price just passing through them up and down like nothing.
Day 1 Technical analysis challenge: How do you identify trends with moving averages? (Part 1)
However, if we use the weekly chart instead, EMA20 is now becoming a much better and stronger support. This is because now each candle stick represents 1 week, longer period than the daily candle.
Day 1 Technical analysis challenge: How do you identify trends with moving averages? (Part 1)
3. Not for consolidation.
When a stock is in consolidation, all moving averages are like merging to each other. Moving average is meaningless, as moving average is only useful when there is an obvious trend. Instead, we should use horizontal line as support and resistance to analyze the stock instead.
Day 1 Technical analysis challenge: How do you identify trends with moving averages? (Part 1)
4. Moving average is also meaningless for a pump and dump stock.
Day 1 Technical analysis challenge: How do you identify trends with moving averages? (Part 1)
5. Cross-over is not buying point.
This is a very important point. Although previous I did mention that MA cross-over could signify a change in trend, but it never suggests a buying point. Using $Costco (COST.US)$ as example, the moment SMA50 crosses below SMA150, it signifies a mid-term down-trend. However, as moving average is a lagging indicator, the price is already very low, and it rebound later. Similarly, when SMA50 cross above SMA150 here, signified the mid-term trend is shifting to up-trend. However, the price is already at high.
Day 1 Technical analysis challenge: How do you identify trends with moving averages? (Part 1)
Hope you learn something new in this video. Which period of moving average that you use the most? Please share with us in the comment section!

If my post manages to give you some new insight, please motivate me by subscribing my channel and like the video here:
https://www.youtube.com/watch?v=k1GpVqvU0Mg

Thank you very much and looking forward to mingle with Moo Moo community more :)
Disclaimer: Community is offered by Moomoo Technologies Inc. and is for educational purposes only. Read more
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JM investor
learn investing in my YouTube channel at "JM investment journal"
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