Easy Investing with Moving Average
An easy investing method for determining if a stock is at a good purchase or sell point is to determine the stocks moving average. A Moving average is basically the average of the stock price over a specific period of time charted over a broad time period. For example, a 15 day simple moving average is the plot of the average value of the previous 15 days closing stock price values. To calculate a 15 day moving average, you would add the closing prices together for each of the previous 15 days, and then divide by 15. This would be one point on your indicator chart. So what are the benefits of calculating moving average and why is it used? Great question, let’s take a look.
Most investors use various types of moving averages, including the Simple Moving Average, Exponential Moving Average, Smoothed Moving Average, and Linear Weighted Moving Average. Each moving average calculation has its Pros and Cons. For this article, we will stick with the Simple Moving Average.
As mentioned previously, the simple moving average is just the average value of the stock price over a designated period of time. Investors and analysts generally use two different plots for the simple moving average. On a chart with the stock price plotted, analysts usually overlay both a short term moving average line and long term moving average line. Typical values for the short term moving average are 10, 20 and 50 day moving average calculations, and long term are generally 100 and 200 day moving averages. The key is to calculate what is know as the crossover point, which is where the moving indicator lines cross. Below is the criteria that move analysts use when analyzing stocks with the simple moving average.
- When the short term moving average (50 day) crosses and continues above the longer term moving average (200 day), it is believed this is a signal to purchase the stock because it will continue on an uptrend.
- When the short term moving average (50 day) crosses and continues below the longer term moving average (200 day), it is believed this is a signal to sell since the stock prices is likely to continue its slide downwards.
The below charts shows an example of a positive crossover point in which the 50 day moving average crossed over the 200 day moving average, and the stock price continued to increase. This is a chart of Intel’s (INTC) stock performance for 2009. The green line is the 50 day moving average, and the orange line is the 200 day moving average.
Note that at the crossover point, the stock price was $16. If the stock price was purchased at the crossover point and held until December 2009, the return would of been greater than 25%.
Simple Moving Averages and crossover point analysis is a very simple and effective method that individuals can integrate into their overall stock analysis approach.