Moving averages can be employed by technical analysts and traders to help smooth out a price chart so that trends are easier to recognize. Traders can also compare the moving average corresponding to a certain time frame to the share price to assess if the stock is sustaining or altering its trend for that period. A trend reversal is indicated as the price crosses above or below the moving average.
For example, this quite straightforward form of moving average analysis could involve observing how close a stock’s price is relative to an important medium term moving average, like the 50 day. If the stock price trades close to — and yet stays above — its 50 day moving average, traders could take that as a bullish signal to establish a long position with the view that the market is falling correctively within an overall medium term uptrend.
Ahead of taking that long position, traders might look for confirmation, like buying interest showing up as the market trades down toward the stock’s 50 day moving average level. Also, bullish signals on key momentum indicators, such as the Relative Strength Index or RSI, can be helpful for confirmation purposes.
In terms of risk management, traders employing this strategy could put a sell stop order strategically below the level of the 50-day moving average, to protect the position from losses if the prevailing upwards trend reverses lower.
You can review the outcome of an algorithmic scan of the stock market that show stocks with prices currently trading just above their 50 day moving average and therefore could present traders with an interesting buying opportunity.
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