Trading Using the Golden Cross
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In technical analysis, a Golden Cross is a bullish pattern in which a faster and short-term moving average crosses above a slower and longer-term moving average. Although the duration of the moving averages may vary from trader to trader, the most common setting for this pattern uses a 50-day moving average (the faster MA) against a 200-day moving average (the slower MA).
The Golden Cross can indicate that a potential trend reversal toward the upside may be emerging, or that market conditions may have turned bullish (if not less bearish).
Although a Golden Cross pattern can’t give us a surefire “green light” that the technical conditions of an asset’s price is definitively bullish, it can indicate several potentialities that may be viewed in a more bullish light.
A downtrend may have (temporarily or significantly) bottomed out.
Prices have risen with enough consistency or momentum to have brought the faster moving average above the slower moving average.
Buying activity may be rising at a steady rate, enough to lift prices over a period of time.
Market sentiment may be increasingly bullish, as evidenced by the rise in prices.
As a side note (and something you should check out next), the Golden Cross is the positive half of its negative doppelganger, mirror image, or, shall we say, evil twin: the Death Cross, which indicates the exact opposite.
Depending on your strategy and general market approach, there are a few ways to actionably interpret a Golden Cross event. The basic assumption here is that a trend change can generally amount to a “sea change,” so to speak, in market bias and, eventually, trading strategy.
Golden Cross as a Confirmation Signal. The pattern can be used to confirm the likelihood that a bullish trend reversal, or an end to a downtrend, may be underway. Most traders would use other technical (and fundamental) indicators in addition to a Golden Cross to confirm such a reading.
Golden Cross as a Signal To Go “Long.” Although several nuanced methods exist to enter a long position in the market, a Golden Cross can be used as part of a trader’s market entry strategy.
Golden Cross as a Stop-Loss. Many investors use the 50-day moving average as a stop-loss level, assuming that a close below the 50-day MA might signal that an asset’s rising trend may be in question. The same assumption applies to the 200-day MA and depends on the investor’s investment timeframe. Such an assumption may not always be reliable, yet it’s nevertheless common. For greater accuracy in placing stops, it’s advisable to use other technical (and fundamental) indicators and methods. The important thing is to try to distinguish a longer-term bearish reversal from an exaggerated correction.
The market conditions and price action surrounding a Golden Cross may be just as important as the signal itself. In other words, not all Golden Crosses are the same.
For example, technical analyst Tom McClellan distinguishes between two types of crossover patterns. They are as follows:
Type 1 Crossing, where prices are extended far from the actual crossover price point (and in the direction of the crossover)
Type 2 Crossing, where prices retrace the actual price point in which the crossover event took place
According to McClellan, a type 1 crossover event can mark a temporary or more significant reversal (shown below).
A type 2 event, however, often indicates a resumption of the actual trend prior to the crossover (shown below).
Pay attention to how prices behave after a Golden Cross. This is where using other technical and fundamental indicators can help give you a broader insight into the market context.
For example, if buying activity and volume dries up following a Golden Cross event, you might want to figure out why the bullish momentum appears to be dwindling. Is it a lack of conviction among market bulls? There can be several technical and fundamental reasons driving such an occurrence, and gaining insight on a market’s seemingly indecisive reaction may help you inform your trading strategy from that point forward.
The Golden Cross is a technical event that signals a potential bullish trend reversal. The pretext is that the short-term moving average is currently below the longer-term moving average—typically characterized a downtrend—and is now reversing direction. When a Golden Cross occurs, it signals that an uptrend may be emerging from either a downtrend or a sideways trading range.
While the Golden Cross, early on in its occurrence, can’t forecast bullishness with a reliable degree of accuracy, it can give you an early signal that a more bullish market environment may be ahead given the right convergence of technical and fundamental factors.
