Determining Trends with Moving Averages

Apurva Sheth
Technical Analysis and Trading is all about determining the Trend. A trader makes money by identifying the trend correctly and trading along with the trend until the evidence proves it otherwise. If the trend is up you trade on the long side. If the trend is down you trade on the short side. If a clear trend isn't visible then you avoid trading. Although it may sound very simple but determining trends is not that easy.

There are many techniques that a trader can you use to determine a trend in any security that he is analyzing. I have spoken to you about 'Peak Trough Analysis' earlier. This is the simplest of all the tools available to determine a trend. If the stock is continuously forming higher peaks and higher troughs it is considered to be in an uptrend. If the stock is continuously forming lower peaks and lower troughs it is considered to be in a downtrend.

Another method which we have already seen is of drawing trending. An uptrend line can be drawn by joining a series of ascending bottoms in a rising market by a straight line. A down trendline can be drawn by joining the tops of a descending series of rally peaks.

Trend Channels are also useful in determining a trend. Trend channels are nothing but price action contained between two parallel trendlines.

Moving averages is yet another important tool that a market technician can add to his toolbox to determine a trend. Over the last few days we have understood the basic types of moving averages like simple moving average and exponential moving average.

Today, we will start applying the basics of moving average. The first and most common application of a moving average is to determine a trend. It is done by comparing the current price to the moving average that represents the trader's time horizon.

For example one can use a 50 day moving average to determine short term trend. Similarly one can use 100 and 200 Day moving average to determine medium and long term trend respectively. If the stock is above its 50 day moving average, the short term trend is considered upward. Conversely, if the stock is below its 50 day moving average, the short term trend is considered downward.

50 EMA helps determining the short term trend
Source: Spider Software India

The chart that I have illustrated above is of CNX Metal Index from November 2012 to March 2014 along with its 50 Day Exponential Moving average. The index broke the 50 EMA in January 2013 and stayed below it for a substantial time confirming a downtrend. Later in August 2013 it broke above the 50 EMA confirming an uptrend. Similarly, one can use the 100 & 200 SMA or EMA to determine the medium and long term trend as well.

Apart from the position of price with respect to its moving average; the direction of the moving average in itself also conveys a lot about the trend. A rising moving average suggests that prices are generally increasing. A falling moving average indicates that prices, on an average, are falling. On the other hand, flattening of the moving average may indicate that the ongoing trend may be about to halt or reverse.

A moving average which is rising for a considerable period reflects the strength of the trend. For example if a short or medium term moving average isn't violated for a long time indicates a clear cut domination by either of them; the bulls or bears depending on whichever direction the prices are moving.

Contrary to what many people think determining a trend with a moving average is not an end by itself, it is just the first step in the trading process. Moving averages are lagging indicators which means they do not predict future trends they only confirm the past trends once they are established.

But nevertheless this doesn't undermine their importance in determining the trend. If used in the right way they can give good insights about the trend.

Do you use moving average to determine short, medium and long term trends? Share your views in the Club or share your comments here.

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We request your view! Post a comment on "Determining Trends with Moving Averages". Click here!
4 Responses to "Determining Trends with Moving Averages"
Ambrose
20 May, 2015
The Author has done an excellent work of simplifying his knowledge on MA, so that even a novice in this field like me can understand it well. Thank U. Pune. Like 
BYK Rao Ph.D.,
17 May, 2015
Identifying trend by moving averages by Apurva Seth is an interesting article among several of his technical analysis articles. All the factors such as `peak & trough, trend lines. parallel channels etc., mentioned are very helpful in trend analysis. Moving averages are again the most important factor as rightly mentioned by this author. Also share price crossing over rising MA, & correcting to take support on the MA is a good entry point .Similarly lower rising MA crossing over a higher MA.( golden cross) is again a good trend indicator. It is gratifying to note Apurva Seth`s efforts to create technical analysis awareness among investors. The clarity & simplicity are praise worthy. byk, /Pune.Like 
D K Singhal
16 May, 2015
MAs considered lagging indicator, yet these are more useful than oscillators which throw you out of a trade prematurely. With a pair of MAs and one timing oscillator like stokestics give excellent results on all time frames. It keeps trading easy and fun.Like 
Bhaskara Phaneendra
16 May, 2015
Sir, Determining trends with Moving averages is verf good and helpful to traders. thank you and I hope your guide lines will make me as a winner.Like 
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