What is the 200 day moving average?
A 200 day moving average (DMA) refers to the average price at which a stock has closed over the last 200 days. It is plotted as a line on a chart and goes higher or lower in tandem with the long-term movement in the stock, commodity, or some other security that is being tracked. The DMA is one of the key indicators used by traders and investors to gauge the overall market trends in the long term.
In general, moving averages (MA) are used as price trend indicators that help in understanding how prices have behaved over a certain period of time. The 200-day MA acts as an important support mechanism when price behaviour is unusual, such as when the price is above the moving average or below a certain resistance level.
200-Day moving average chart
The 200-day moving average is represented as a line plotted on a chart. It is often used in conjunction with other short-term MAs, such as the 50-day MA. This conjoined usage enables a more comprehensive understanding of the market trend as well as allows traders to examine the strength of a trend.
When the 50-day moving average is above the 200-day MA and crosses it at some point of time in the downward direction, it is called the “death cross”. This intersection signals the coming of a bearish trend of a stock or any security that is being tracked.
On the other hand, when the 50-day MA is below the 200-day moving average and crosses it in an upward direction, the stock is seen as “golden”. This means that the price of the security is bound to rise after the 50 DMA cuts the 200 DMA.
Importance of 200 day moving average
The 200-day moving average represents long-term price behaviour. Investors and traders looking for long-term securities used the 200-day MA metric to identify robust stocks, assess market trends, and fix stop losses.
- Identify strong securities
The DMA is an effective tool for traders to filter out robust securities from the unhealthy or the non-performing ones. For example, if a stock has managed to stay above the 200-day moving average, it shows the trader that the fundamentals of the stock are strong and deep. Moreover, this moving average also helps in understanding the dynamics of the market, as the number of companies performing above the 200 DMA means that the market is functioning well and healthily. - Support and resistance
The 200 day moving average line gives traders a strong indication about price levels that have yet not been breached. This is important because unless there is a compelling triggering factor, prices usually deviate before crossing the moving average. As a result, the MA serves as both a support and resistance indicator. When the 200 DMA is showing a steady upward movement, for instance, traders will tend to go long as prices are likely to rise after bottoming out. On the other hand, a sharp rise in the price of a stock portends a trend reversal in the near or short-term. In this case, traders expect the bottoming-out of the stock price. - Setting stop losses
Traders often employ the 200-day moving average mechanism to fix their stop losses. Choosing the duration of the moving average becomes crucial in this regard. If the duration picked is too short, then the trader is looking at a potentially high opportunity cost, as the stop loss can occur before the stock price rises or falls. While the 200 DMA is highly useful in gauging long-term price behaviour, short-term moving averages are useful in determining if the price of a security is losing steam.
What is a DMA in the stock market?
The 200 day moving average is essentially a simple moving average (SMA). The concept is widely used by investors and traders in formulating trading strategies in the stock market. One commonly utilised strategy is the employment of two different SMAs from two different points in time and crossing them over to generate signals. The moving average crossover strategy features two sub-strategies: a long-term exponential moving average (EMA) and a short-term EMA. The two EMAs are then crossed over to produce buying or selling signals, which in turn can indicate how and in which direction the market momentum is shifting. This strategy is also effective in intraday trading as well, especially in identifying short-term price trends.
Conclusion
The 200 moving average offers a sound technical analysis of the behaviour of stock prices over a substantially long period of time. It helps traders, investors, and analysts to gain a comprehensive understanding of price trends, allowing them to anchor their assessment in robust metrics. One of the biggest advantages of using the 200 DMA is in the identification of stocks that have grown in value and have strong fundamentals to support them. Lastly, because it is a moving average, it eliminates the noise created by daily price fluctuations that can be triggered by random events. These fluctuations do not provide an accurate picture of price trends in particular and the market trends in general.
