A bearish or bullish price is generated when a longer and shorter moving average cross paths; the direction of the crossover will decide which way it goes. If you’re unaware, a moving average measures the value of a security’s price over a certain period of time. When the moving averages cross, this event occurs. For a longer term signal, the supported crossover would be 50 crossing 200 whilst a shorter term signal would be 21 crossing 50.
When the shorter moving average crosses ABOVE the longer moving average, the is a bullish signal. However, the opposite crossover will be a bearish signal. Over the certain time period, equal weight will be given to each price which makes it a fair calculation to draw analysis from. For example, the sum of the time period in terms of stock will then be divided by the time period itself. Let’s say that the time period is three weeks, the sum of the 21-day period would be divided by 21 in order to calculate a daily average. Alternately, there is a moving average where the averages are weighted but they are not normally supported.
Although they have their benefits, moving averages do have a large downside in that it analyses historical data. By using this method, you will not be able to buy at the bottom and sell at the top because it is like driving whilst looking in the rear-view mirror. However, you will be able to find a middle ground and work near the middle. When an uptrend or downtrend is firmly in place, then this method comes into its own. When compared to the simple moving average, this technique is said to be more reliable because there are two different series of prices being analyzed which reduces the risk of false signals occurring. To maximize moving averages, it is best utilized on the Momentum and MACD.