A stock falls to its 200-day moving average and stops there, to the cent, on a day nothing else happened. There is no force in that line. It holds because a large number of people are looking at the same number and placing orders around it. StockCharts describes the effect without dressing it up: the 200-day average "may offer support or resistance because it's widely used. It is almost like a self-fulfilling prophecy."
That is the honest case for the 20, 50 and 200-day moving averages. They are arithmetic on past closes, and they matter because the arithmetic is shared.
What moving averages are
A simple moving average is "formed by computing the average price of a security over a specific number of periods" (StockCharts). A 20-day SMA adds the last 20 closes and divides by 20, and does it again tomorrow with the newest close in and the oldest one out.
An exponential moving average changes the weighting. EMAs "reduce the lag by applying more weight to recent prices", so a new close moves an EMA further than it moves an SMA of the same length.
Both are lagging by construction. StockCharts states it directly: moving averages "are trend-following, or lagging, indicators that will always be a step behind", because every value is built from prices that have already printed. No setting removes that. A shorter average shortens the lag and adds false turns; a longer average does the reverse.
Which type to use
SMA and EMA answer the same question with different sensitivity, and neither is correct in general. A common arrangement is an EMA for the shortest average, where reaction time is the point, and SMAs for the 50 and 200-day, where the number's popularity is the point. Run both on one chart for a week and you will see how far apart they sit.
The 20-day moving average
The 20-day average tracks roughly the last month of trading, which is the horizon a swing trade lives in.
Read three things off it. Price above the line means the last month of closes is being exceeded. The slope tells you whether that is accelerating or flattening out. And the line itself often acts as support in an uptrend and resistance in a downtrend. StockCharts adds a caveat: "Instead of exact levels, moving averages can be used to identify support or resistance zones."
The pullback entry
- Confirm the stock is in an uptrend, with price above the 50-day average.
- Wait for the pullback to reach the 20-day average.
- Look for a bar that closes back up off the average, rather than buying the first touch.
- Buy the close or the following open, with the stop below the recent swing low.
The example below is hypothetical, with invented prices.
A stock runs from $50 to $60 and its 20-day average sits at $56. Price pulls back to $56.50 and closes strongly off the low. You buy at $57 with the stop at $54, so the risk is $3 a share. An exit at $65 returns $8 a share, which is 2.7 times the risk.
Notice what sets the size of that trade: the distance from $57 down to $54, not the distance up to $65.
What the 20-day average tells you
| Condition | What it means |
|---|---|
| Price crosses above the 20-day | The last month of closes is being exceeded |
| Price crosses below the 20-day | Short-term momentum has turned against the position |
| Price turns up off the 20-day | The pullback held at a level other traders watch |
| The 20-day slopes upward | Recent closes are above older ones and rising |
| The 20-day flattens | The stock is going sideways, whatever the price does intraday |
The 50-day moving average
The 50-day average covers about a quarter of trading, and it is the trend a position held for a few weeks sits inside.
Its main use is as a filter rather than a trigger. Take long setups while price is above the 50-day average and short setups while price is below it. That rule keeps counter-trend setups off your list, which is a different claim from saying it makes money. It narrows what you look at.
Two ways to trade it
The pullback. A stock that has run a long way comes back to the 50-day average. Wait for price to stop falling and close back up before buying, and place the stop below the average. If price closes underneath it, the premise is gone.
The reclaim. A stock consolidates around the 50-day average and then closes above it on rising volume. Buy the break or the retest of the average, with the stop below it.
What the 50-day average tells you
| Condition | What it means |
|---|---|
| Price crosses above the 50-day | The intermediate trend has turned up |
| Price crosses below the 50-day | The intermediate trend has turned down |
| The first pullback to the 50-day | The trend is being tested for the first time since it started |
| Repeated tests of the 50-day | Each test spends more of the buying that was waiting there |
The 200-day moving average
The 200-day average is close to a year of trading. StockCharts calls it "perhaps the most popular" moving average, and that popularity is the whole mechanism behind its support and resistance.
Used as a filter, price above the 200-day average is a long-term uptrend and price below it is a long-term downtrend. Traders who take only long positions often stop trading a stock entirely when it loses this line.
Two situations to watch. A first test after months on one side of the average concentrates a lot of orders at one price, so the reaction is usually large in one direction or the other. And a reclaim, where price closes back above the average after a stretch below it, flips the filter for every trend-following participant reading the same chart.
What the 200-day average tells you
| Condition | What it means |
|---|---|
| Price above the 200-day | Long-term uptrend by this measure |
| Price below the 200-day | Long-term downtrend by this measure |
| Price reclaims the 200-day | The long-term filter has flipped for anyone using it |
| Price loses the 200-day | The same, in reverse |
Moving average crossover strategies
The golden cross and the death cross
The names are more dramatic than the mechanism. A bullish crossover "occurs when the shorter moving average crosses above the longer moving average. This is also known as a golden cross". A bearish crossover "occurs when the shorter moving average crosses below the longer moving average", and that is the death cross (StockCharts). The version that reaches the news is the 50-day crossing the 200-day.
Two lagging averages crossing is by definition a description of something that already happened. Fifty days of closes have to outrank two hundred days of closes for the cross to occur, so price has usually moved a long way first. Read it as confirmation of a trend change, not as an entry.
The 20/50 crossover
The 20-day crossing the 50-day fires far more often than the 50/200 cross, on a horizon that matches a swing trade. Above, the intermediate trend and the short-term trend agree. Below, they no longer do, which is a reason to check the distance between price and your stop on any open long.
Reading the three averages together
Stacked upward. Price above the 20-day, above the 50-day, above the 200-day, all three sloping up. Every timeframe agrees, and pullbacks are the trade.
Stacked downward. Price below all three, all three sloping down. Long setups here are counter-trend, whatever the pattern looks like.
When the averages disagree. Price above one, below another, lines flat or crossing. This state is common, and it is where crossover signals repeat, because a flat average gets crossed back and forth by ordinary movement. Waiting costs nothing.
A moving average trading system
Every number below is this article's example. Replace each one with a value you have tested.
Entry. Price above the 200-day average. Price above the 50-day average. A pullback into the 20-day average, then a bar that closes back up off it. Buy the next open.
Stop. Below the 20-day average, or below the recent swing low, whichever gives the level that would tell you the setup failed.
Exit. The prior high, or a multiple of the risk you set in advance. If you use 2:1, the arithmetic is fixed for you. At that ratio you break even before costs at a win rate of one in three, and anything below that loses money whatever the entries looked like.
Getting out early. A close below the 20-day average ends a short-term trade. A close below the 50-day average ends an intermediate one. The 20-day crossing back below the 50-day ends both.
Common moving average mistakes
Trading against the 200-day average
Long setups below the 200-day average put you against the filter most other participants are using on the same chart. The pattern can be perfect and still fail for that reason alone.
Buying far from the averages
A stock extended well above its 20-day average has no nearby level to put a stop under, so the position size collapses or the risk goes up. Waiting for the pullback is what makes the trade affordable.
Ignoring the slope
Price above a moving average that is pointing down is not the same setup as price above one that is rising. The first is a bounce inside a decline. The slope is half the information and it costs nothing to look at.
Adding more averages
Ten, thirteen, twenty-one, thirty-four: put enough averages on a chart and one of them supports whatever you already decided. Three lengths on three timeframes is enough to answer the question.
Find out which moving average setup works for you
A 20-day pullback, a 50-day reclaim and a golden cross entry are three different trades with different hold times and different failure modes. Which of them suits you is a question about your own record, not about the indicator.
In Swingfolio you build each one as a strategy in the rule builder. SMA and EMA are both there with the period you choose, and the conditions are is above, is below, crosses above and crosses below. A 20-day pullback strategy and a golden cross strategy end up as separate rule sets you attach to the trades they produced.
When those trades close, the analytics report total P&L, win rate, average R-multiple and profit factor for each strategy, so the three sit side by side on the same screen.
Start the 30-day trial and find out which of the three you should keep trading.