Last week we looked at what different types of moving averages (MAs) are and how they differ from one another, so if you haven’t read that, be sure to check it out so you’re ready for the practical tips on how to trade MAs that we’ll be talking about today.
Everything below will be relevant for both SMAs and EMAs. So how do you know which one to use? As always, backtesting is the way to go. Look at which one is better for the pair you’re watching and go with that one — as is often the case in trading, there’s no easy right or wrong answer for what to use.
There are two main ways to trade MAs: using them as support/resistance and crossovers. When it comes to support/resistance, they work in much the same way as trendlines in terms of bounces, retests etc., so check out my post on trendlines if you haven’t done already.
Crossovers refer to a situation in which you’ve got two different MAs on the same chart and one crosses above or below the other. Typically, the 20 and 50-period MAs are used for this, but once again, this can vary. At any rate, when the shorter MA crosses above the longer one, this is referred to as a golden cross and it’s a pretty decent buy signal, especially on higher timeframes.
Here’s an example of golden cross:
On the other hand, when the shorter MA crosses below the longer one, that’s a death cross, which is — as the name implies — a sell signal.
Here’s an example of death cross:
As always, you need to look for confluences and confirmations to trade on these signals. Confluences are levels where different indicators coincide, such as an MA being at the same level as a horizontal support/resistance level or a trendline. In such a case, the level become much more important, and bounces or breakouts are that much more important.
Confirmations, on the other hand, mean that several indicators agree on the same signal: for example, an MA cross when the RSI gives a bullish swing rejection and the OBV breaks out would be an excellent signal. As for the RSI and OBV, I’ll get to these soon, so stay tuned!