Moving averages remain one of the most popular and commonly used technical indicators in the financial marketplace. They have become a part of many trading strategies because of the simplicity of use and its ease of application. A moving average is a trend-following technical indicator and as such is a lagging indicator because it is based on previous prices.
Moving Average Crossover
A derivative of the moving average concept is the moving average crossover technical indicator. Golden Cross and Death Cross describe the convergences of key moving averages. A moving average crossover occurs when two or more moving averages cross each other. This technical indicator typically deploys two or more moving averages, a slower moving average, or a longer-term moving average (i.e., 200-day) and a faster moving average, or a shorter-term moving average (i.e., 50-day). A Golden Cross technical buy signal occurs when the shorter-term moving average (i.e., 50-day) crosses above the longer-term moving average (i.e., 200-day). Such a technical condition often confirms a change in trend typically favoring a bullish trend. A Death Cross technical sell signal is the opposite. When the shorter-term moving crosses below the longer-term moving average this confirms a change in the trend toward the downside.
A price trend is either upward, downward, or sideways. Most of the time, markets often trade in sideways trading ranges. Trading ranges are considered consolidation phases. This happens approximately 70% of the time. The other 30% of the time markets are either trending up or trending down. A moving average crossover is a technical tool often deployed to help confirm or non-confirm the primary and dominant trend. The concept of moving averages seems easy to understand and to interpret. However, there are some issues with the moving average crossover technique. When the market is consolidating, a moving average crossover tends to generate false signs. That is the wiping actions of a trading range market can result in many signals, some of which are false signals. You need to be aware of the overall trend of the market by evaluating short-term, intermediate-term, and long-term timeframes. If the market is trending strongly in either direction, then you need to be careful of minor retracements and consolidations in the opposite direction as they are defined as countertrend moves that are not sustainable.
Attached is the daily, weekly, and monthly charts of the SPX denoting near-term, intermediate-term, and long-term timeframes. Note that the daily and weekly charts are showing sharp contractions in the short-term and long-term moving averages. This hint of an impending major battle developing between the bulls and the bears. At the current pace, it is likely that a Golden Cross or Death Cross technical signal will develop in the near term possibly as early as the next week or so. The monthly chart is also interesting as it suggests the 10-month and 30-month moving averages are far apart. This technical condition also occurred during the 2015-2016 timeframe. It was not until the contraction of the 10-mo and 30-mo ma during Mar-Apr 2016 that this confirmed the start of the strong 2016-2018 rally. Will a market consolidation occur during the summer-to-fall timeframe? Will this alleviate an overbought condition and set into motion the next sustainable bull rally into the end of the year?