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Charts
Moving Averages: Signals
How can I use moving averages to signal buy and sell points?
Moving averages are the basis for many effective entry and exit strategies.
These methods range from the very simple using only one moving average to complex methods involving combinations of moving averages. One
of the simplest methods uses the crossing of price and a single moving
average as a signal. Another method uses the crossing of two simple moving
averages (SMA) of different lengths. Let's take a closer look at that one,
which is shown in Figure 1.
Figure 1: Coca-Cola
Figure 1 shows the daily bar chart for Coca-Cola to which
an eight-day simple moving average (blue) and a 50-day simple moving average
(red) have been added. The red arrows indicate a short position corresponding
to the eight-day SMA dropping below the 50-day SMA. The green arrows indicate
a long position corresponding to the eight-day SMA crossing above the 50-day
SMA. The arrows simultaneously signal closing the existing position, which
is on the opposite side of the market relative to the new signal. This
is known as stop-and-reverse (SAR).
The smaller window above the price bars is the hypothetical equity line
as calculated by MetaStock's SystemTester. Notice that for the period tested
(1/93-11/98) this system hypothetically lost money even before factoring
in expenses. One challenge for the technician is to determine a strategy
and parameters for that strategy, which minimize risk and maximize expectancy
for a chosen market. Stocks & Commodities frequently runs articles for all levels of traders/investors
that can address this challenge.
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