The 20 day sma

Posted by downtowntrader | 4/11/2007 07:34:00 PM | 0 comments »

I like to use the 20 day simple moving average (sma) as the mean value during a given trend. In an uptrend, you will find that price tends to move higher, and then retrace to a rising 20sma. In a downtrend, the reverse is true. I like the value to be 20, but it is a matter of personal preference. The number you use should correspond with the timeframe you like to trade. I like the 20, since it also happens to be the middle of the bollinger band settings I use. As price moves to the upper bollinger band, it becomes more risky to buy, as price tends to revert to the mean value. The same is true for the lower band. Of course price could ride a band up or down, but conceptually, the further away price is from the 20 day sma, the riskier it is to enter as a continuation move. I am mentioning all this because I have been expecting the indices to revert to the mean and trade down to their 20 day sma's. The question is what will happen this time when price reverts to the 20?

Here is a chart of the Q's showing only the 20 sma and bollinger bands. Notice how in an uptrend price reverts to the mean and then uses it as a spring board. During a consolidation, price oscillates around the 20 as supply and demand are at equilibrium. After the markets broke down in late February, the 20 should of converted to resistance, but instead, price charged through and used it as support. Regardless of what happens next, the 20 will likely continue to be the best place to enter the trend.

I would expect most indices to tag the 20 day sma's tomorrow and then how they respond will set the tone for the next week or so.

Good Luck,