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  • Table of Contents
    • Overview
      • Why Analyze Securities?
      • Technical Analysis
      • Fundamental Analysis
      • Random Walk vs. Non-Random Walk
      • Asset Allocation and Diversification
      • John Murphy's 10 Laws of Technical Trading
      • John Murphy's "Charting Made Easy" eBook
      • Technical Analysis 101
        • TA 101 – Part 1
        • TA 101 – Part 2
        • TA 101 – Part 3
        • TA 101 – Part 4
        • TA 101 – Part 5
        • TA 101 – Part 6
        • TA 101 – Part 7
        • TA 101 – Part 8
        • TA 101 – Part 9
        • TA 101 – Part 10
        • TA 101 – Part 11
        • TA 101 – Part 12
        • TA 101 – Part 13
        • TA 101 – Part 14
        • TA 101 – Part 15
        • TA 101 – Part 16
        • TA 101 – Part 17
      • Irrational Exuberance
      • Cognitive Biases
      • Arthur Hill on Goals, Style and Strategy
      • Arthur Hill on Moving Average Crossovers
      • Multicollinearity
      • "The Trader's Journal" by Gatis Roze
        • Stage 1: Money Management
        • Stage 2: Business of Investing
        • Stage 3: The Investor Self
        • Stage 4: Market Analysis
        • Stage 5: Routines
        • Stage 6: Stalking Your Trade
        • Stage 7: Buying
        • Stage 8: Monitoring Your Investments
        • Stage 9: Selling
        • Stage 10: Re-Examine, Refine, Re-Enhance
        • Additional Reading
      • Bob Farrell's 10 Rules
      • Richard Rhodes' Trading Rules
      • Donchian Trading Guidelines
      • Why and How To Use Correlation
    • Chart Analysis
      • What Are Charts?
      • Support & Resistance
      • Trend Lines
      • Gaps and Gap Analysis
      • Introduction to Chart Patterns
      • Chart Patterns
        • Broadening Top or Megaphone Top
        • Double Top Reversal
        • Double Bottom Reversal
        • Head and Shoulders Top
        • Head and Shoulders Bottom
        • Falling Wedge
        • Rising Wedge
        • Rounding Bottom
        • Triple Top Reversal
        • Triple Bottom Reversal
        • Bump and Run Reversal
        • Flag, Pennant
        • Symmetrical Triangle
        • Ascending Triangle
        • Descending Triangle
        • Rectangle
        • Price Channel
        • Measured Move—Bullish
        • Measured Move—Bearish
        • Cup With Handle
      • Chart Types
        • Arms CandleVolume
        • CandleVolume
        • Elder Impulse System
        • EquiVolume
        • Heikin-Ashi Candlesticks
        • Kagi Charts
        • Renko Charts
        • Three Line Break Charts
        • MarketCarpets
        • Relative Rotation Graphs (RRG Charts)
        • Seasonality Charts
        • Yield Curve
      • Candlestick Charts
        • Introduction to Candlesticks
        • Candlesticks and Traditional Chart Analysis
        • Candlesticks and Support
        • Candlesticks and Resistance
        • Candlestick Bullish Reversal Patterns
        • Candlestick Bearish Reversal Patterns
        • Candlestick Pattern Dictionary
      • Point and Figure Charts
        • Point and Figure Basics
          • Introduction to Point & Figure Charts
          • Point & Figure Scaling and Timeframes
          • P&F Trend Lines
        • Classic Patterns
          • P&F Bullish Breakouts
          • P&F Bearish Breakdowns
          • P&F Signal Reversed
          • P&F Catapults
          • P&F Triangles
          • P&F Bull & Bear Traps
        • P&F Price Objectives
          • P&F Price Objectives: Breakout and Reversal Method
          • P&F Price Objectives: Horizontal Counts
          • P&F Price Objectives: Vertical Counts
        • Point & Figure Indicators
        • P&F Scans and Alerts
          • P&F Pattern Alerts
      • Chart Annotation Tools
        • Andrews' Pitchfork
        • Stock Market Cycles
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        • Fibonacci Fans
        • Fibonacci Time Zones
        • Quadrant Lines
        • Raff Regression Channel
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    • Technical Indicators & Overlays
      • Introduction to Technical Indicators and Oscillators
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        • Accumulation/Distribution Line
        • Alligator Indicator
        • Aroon
        • Aroon Oscillator
        • ATR Bands
        • ATR Trailing Stops
        • Average Directional Index (ADX)
        • Average True Range (ATR) and Average True Range Percent (ATRP)
        • Balance of Power (BOP)
        • Bollinger BandWidth
        • %B Indicator
        • Chaikin Money Flow (CMF)
        • Chaikin Oscillator
        • Chande Trend Meter (CTM)
        • CMB Composite Index
        • Commodity Channel Index (CCI)
        • ConnorsRSI
        • Coppock Curve
        • Correlation Coefficient
        • DecisionPoint Price Momentum Oscillator (PMO)
        • Detrended Price Oscillator (DPO)
        • Distance From Highs
        • Distance From Lows
        • Distance To Highs
        • Distance To Lows
        • Distance From Moving Average
        • Ease of Movement (EMV)
        • Force Index
        • Gopalakrishnan Range Index
        • High Low Bands
        • High Minus Low
        • Highest High Value
        • Linear Regression R2
        • Lowest Low Value
        • Mass Index
        • MACD (Moving Average Convergence/Divergence) Oscillator
        • MACD-Histogram
        • MACD-V
        • MACD-V Histogram
        • Median Price
        • Money Flow Index (MFI)
        • Negative Volume Index (NVI)
        • On Balance Volume (OBV)
        • Percentage Price Oscillator (PPO)
        • Percentage Volume Oscillator (PVO)
        • Performance Spread
        • Price Relative/Relative Strength
        • Pring's Know Sure Thing (KST)
        • Pring's Special K
        • Rate of Change (ROC)
        • Relative Strength Index (RSI)
        • Relative Volume (RVOL)
        • RRG Relative Strength
        • StockCharts Technical Rank
        • Slope
        • Standard Deviation (Volatility)
        • Stochastic Oscillator (Fast, Slow, and Full)
        • StochRSI
        • Traffic Light
        • TRIX
        • True Range
        • True Strength Index
        • TTM Squeeze
        • Typical Price
        • Ulcer Index
        • Ultimate Oscillator
        • Vortex Indicator
        • Weighted Close
        • Williams %R
      • Technical Overlays
        • Anchored VWAP
        • Bollinger Bands
        • Chandelier Exit
        • Double Exponential Moving Average (DEMA)
        • Hull Moving Average (HMA)
        • Ichimoku Cloud
        • Kaufman's Adaptive Moving Average (KAMA)
        • Keltner Channels
        • Linear Regression Forecast
        • Linear Regression Intercept
        • Moving Averages—Simple and Exponential
        • Moving Average Ribbon
        • Moving Average Envelopes
        • Parabolic SAR
        • Pivot Points
        • Price Channels
        • Triple Exponential Moving Average (TEMA)
        • Volume-by-Price
        • Volume-Weighted Average Price (VWAP)
        • ZigZag
    • Market Indicators
      • Introduction to Market Indicators
        • Market Indicator Dictionary
      • Advance-Decline Line
      • Advance-Decline Percent
      • Advance-Decline Volume Line
      • Advance-Decline Volume Percent
      • Arms Index (TRIN)
      • Bullish Percent Index (BPI)
      • DecisionPoint Intermediate-Term Breadth Momentum Oscillator (ITBM)
      • DecisionPoint Intermediate-Term Volume Momentum Oscillator (ITVM)
      • DecisionPoint Swenlin Trading Oscillator (STO)
      • High-Low Index
      • High-Low Percent
      • McClellan Oscillator
      • McClellan Summation Index
      • Net New 52-Week Highs
      • Percent Above Moving Average
      • Pring's Bottom Fisher
      • Pring's Diffusion Indicators
      • Pring's Inflation and Deflation Indexes
      • Pring's Net New High Indicators
      • Put/Call Ratio
      • Record High Percent
      • Volatility Indices
    • Market Analysis
      • Dow Theory
      • Sector Rotation Analysis
      • Intermarket Analysis
      • The DecisionPoint Chart Gallery
      • DecisionPoint Rydex Asset Analysis
      • Wyckoff Analysis Articles
        • Wyckoff Market Analysis
        • Wyckoff Stock Analysis
        • The Wyckoff Method: A Tutorial
      • Elliott Wave Analysis Articles
        • Introduction to Elliott Wave Theory
        • Identifying Elliott Wave Patterns
        • Guidelines for Applying Elliott Wave Theory
    • Trading Strategies & Models
      • DecisionPoint Trend Model
      • Trading Strategies
        • Bollinger Band Squeeze
        • CCI Correction
        • CVR3 VIX Market Timing
        • Faber's Sector Rotation Trading Strategy
        • Gap Trading Strategies
        • Harmonic Patterns
        • Hindenburg Omen
        • Ichimoku Cloud Trading Strategies
        • The 'Last' Stochastic Technique
        • MACD Zero-Line Crosses With Swing Points
        • Moving Average Trading Strategies
          • Finding Support and Resistance in Moving Averages
          • Guppy Multiple Moving Average: An MA Ribbon Designed to Tip the Market’s Hand
          • How To Trade Price-to-Moving Average Crossovers
          • Trading the Bounce: Finding Support and Resistance in Moving Averages
          • Trading the Death Cross
          • Trading Using the Golden Cross
          • Using the 5-8-13 EMA Crossover for Short-Term Trades
        • Moving Momentum
        • Narrow Range Day NR7
        • Percent Above 50-day SMA
        • Percent B Money Flow
        • The Pre-Holiday Effect
        • RSI(2)
        • Six-Month Cycle MACD
        • Slope Performance Trend
        • Stochastic Pop and Drop
        • Swing Charting
        • Trend Quantification and Asset Allocation
    • Index & Market Indicator Catalog
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      • StockCharts AD Percent
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On this page
  • Moving Averages
  • Smoothing the Closing Price
  • Using the Percentage Price Oscillator
  • Fixing the Long-term EMA
  • Asset Allocation
  • Indicator Tweaks
  • The Bottom Line
  • Suggested Scans to Identify Trends
  • Long-term Downtrend
  • Long-term Uptrend
  • Further Study

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  1. Table of Contents
  2. Trading Strategies & Models
  3. Trading Strategies

Trend Quantification and Asset Allocation

PreviousSwing ChartingNextIndex & Market Indicator Catalog

Last updated 10 months ago

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Long-term trend reversals are often processes, not sudden events. Think of the long-term trend as a super tanker, which requires time to reverse direction. Speedboats, on the other hand, represent the short-term trend, which can quickly reverse. Moreover, the long-term trend can range from several months to a few years. With this in mind, chartists should consider more than one long-term timeframe when defining the long-term trend. This article will show how to use an array of to define the long-term trend and identify the trend reversals with fewer whipsaws.

Moving Averages

Despite their lag, moving averages are the most popular indicator for trend identification. Chartists often look at price levels relative to a specific moving average. The trend is considered up when prices are above a particular moving average and down when below it. That's what you'd think, anyway—a shame it isn't that easy.

The chart below shows the S&P 500 ETF (SPY) with four long-term exponential moving averages (EMAs). Chartists can define the trend by comparing the price level to the 125-day EMA, 150-day EMA, 175-day EMA, and 200-day EMA. However, the trend does not always reverse when prices move above or below these moving averages.

There was a clear downtrend from the 2007 high until the March 2009 low, but SPY broke above these moving averages at the end of 2007 and again in the first half of 2008. These breakouts did not signal a trend reversal because the ETF soon peaked and continued lower. After this downtrend, there was an extended uptrend from March 2009 to April 2012. Again, the ETF broke below these moving averages in 2010 and again in 2011. These breaks did not signal a trend reversal because the ETF quickly recovered and continued higher.

Smoothing the Closing Price

The chart above shows that daily price data can be volatile, meaning moving average breaks are prone to false signals. A long-term trend identification system should be able to capture the long-term trend without so many whipsaws (false signals). It is impossible to totally eliminate whipsaws, but you can reduce them by smoothing the price data and then using the long-term moving averages.

The chart below shows the Dow Industrials SPDR (DIA) as a 50-day EMA (black). Four exponential moving averages are also displayed to define the trend. Note that the actual price plot for DIA is invisible on this SharpChart. This allows you to focus on the smoothed 50-day EMA for signals.

Smoothing the price data with a 50-day EMA increases the lag factor but also decreases the number of whipsaws. The blue arrow shows where DIA held the moving averages and maintained the trend. The blue circle shows a whipsaw towards the end of 2011. There were fewer whipsaws on this chart compared to the SPY chart, meaning this system did a better job with trend identification.

Using the Percentage Price Oscillator

The chart below shows four versions of the PPO comparing the 50-day EMA to longer EMAs. When all four PPOs are positive, the trend is strong and bullish. The trend slowly weakens as the PPOs turn negative, and it becomes full-blown bearish when all four are negative. Trend reversals are a process and usually take a few weeks.

Fixing the Long-term EMA

The example in the above chart uses a fixed medium-term exponential moving average (50-day EMA) and variable long-term EMAs. You can also fix the long-term EMA and make the shorter EMAs variable. For example, the long-term EMA could be fixed at 150 days, and the other EMAs could scale up in equal increments. The chart below shows four Percent Price Oscillators with a fixed long-term EMA (150 days) and four variable EMAs (20, 40, 60 and 80 days).

Chartists can use positive and negative readings to assess the trend. The PPO (20,150,1) will be the most sensitive and the first to change, while the PPO (80,150,1) will be the least sensitive and the last to change. Chartists can then quantify trend direction and strength based on the number of indicators in positive or negative territory. Again, the trend is full-blown bullish when all four PPOs are positive and full-blown bearish when all four are negative.

Asset Allocation

Many investing strategies scale into positions as the evidence turns bullish and scale out as the evidence turns bearish. Chartists can use these four PPOs to develop a scaling system based on a strengthening or weakening trend. For example, the four PPOs could represent one-quarter of the trend and one-quarter of the portfolio allocation. When one PPO turns positive and the trend is one-quarter bullish, investors could invest 25 percent in the stock market. The second tranche could be invested when a second PPO turns positive and so forth. An investor would be 100 percent invested by the time all four are in positive territory.

In a similar fashion, an investor could reduce long positions by 25% when the first PPO turns negative. Market exposure would be subsequently reduced as the other PPOs turn negative; the investor would be out of the market when all four are negative.

Indicator Tweaks

Other indicators can help define the trend and determine asset allocation. For example, the slope indicator can be used similarly, though you will most likely want to adjust the timeframe.

The chart below shows four versions of the slope indicator (50-day, 75-day, 100-day and 125-day). The trend is up when the slope is positive and down when the slope is negative. The degree of strength depends on how many slope indicators are positive. A strong uptrend is in play when all four are positive, while a strong downtrend is present when all four are negative.

The Bottom Line

Suggested Scans to Identify Trends

Long-term Downtrend

This scan finds stocks that are in a long-term downtrend.

  [type = stock]
  and [today's sma(20,volume) > 40000]
  and [today's sma(60,close) > 20]
  and [today's ema(20,close) > today's ema(150,close) ]
  and [today's ema(40,close) > today's ema(150,close) ]
  and [today's ema(60,close) > today's ema(150,close) ]
  and [today's ema(80,close) > today's ema(150,close) ]

Long-term Uptrend

This scan finds stocks that are in a long-term uptrend.

  [type = stock]
  and [today's sma(20,volume) > 40000]
  and [today's sma(60,close) > 20]
  and [today's ema(20,close) < today's ema(150,close) ]
  and [today's ema(40,close) < today's ema(150,close) ]
  and [today's ema(60,close) < today's ema(150,close) ]
  and [today's ema(80,close) < today's ema(150,close) ]

Further Study

John Murphy's Technical Analysis of the Financial Markets has a chapter devoted to stock market indicators (breadth) and their various uses. Murphy also covers moving averages and other signals that can be used to augment this system.

Chartists can also use the (PPO) to determine if the 50-day EMA is above or below a long-term EMA. For example, the PPO set at (50,200,1) measures the percentage difference between the 50-day EMA and 200-day EMA. The PPO is positive when the shorter EMA is above the longer EMA and negative when the shorter EMA is below the longer EMA. This indicator makes it easy to identify moving average crossovers.

Trend identification is often the starting point for many trading and investing strategies. Relatively passive investors can use a long-term trend following strategy to define the trend and allocate funds accordingly. Active traders can use these trend indicators to define the long-term trend and then look for trades in the direction of that trend. This article shows examples using long-term exponential moving averages and long-term settings for the Percent Price Oscillator (PPO). These settings can, of course, be tweaked to suit your trading or investing style. Keep in mind that this article is designed as a starting point for trading system development. Use these ideas to augment your trading style, risk-reward preferences and personal judgments. for a chart of the S&P 500 ETF (SPY) with the four exponential moving averages and Percent Price Oscillators used above.

John J. Murphy

Percentage Price Oscillator
Click here
Technical Analysis of the Financial Markets
moving averages
Applying long-term exponential moving averages to a price chart.
Smoothing the price data with exponential moving averages.
Four versions of the PPO comparing the EMA(50) to longer-term EMAs.
PPO with fixed long-term EMA and four variable EMAs.
Using the Percentage Price Oscillator indicator for asset allocation.
Chart 6 - Trend Composite