If a share falls for three days in a row, is that a downtrend? What should you do if a share looks like it is going up on a daily chart, but is tumbling lower on an hourly chart? Is that stock in an uptrend or a downtrend?
One of the easiest ways to identify a trend is by using a moving average. For many newer traders, understanding how a moving average provides an indication of a market’s overall direction can rapidly speed up their development as traders.
While you are able to generate moving averages in any charting package worth its salt, it is handy to understand what is going on.
In short, moving averages determine the “average” price over a certain amount of time periods. For example, constructing a twenty-period moving average requires price data for a minimum of twenty periods.
So, if the current price is above the recent average, we can assume prices are generally moving higher. If the price is below the moving average then, obviously, prices would appear to be declining.
The red line in the first chart below, using the S&P/ASX 200 (XJO), is an example of a moving average. In this case, we are using the 100-day moving average, which is more likely to be used by longer-term investors.

Above or below
In an uptrend, the moving average tends to be below the price line while in a downtrend, the moving average tends to be above the price line.
Using this technique, you look to take long positions when the price of a security crosses from below to above the moving average. In the same way, traders would short a security when the price crosses from above to below the moving average.
In the first example, we can see the price of the S&P/ASX 200 crossed above the moving average in mid-2003. This signals that the Australian market had moved into an uptrend and investors might have decided to take long positions in the index.

Two heads are better than one
If one moving average is good, are two moving averages better? You bet.
Many traders will use two moving averages instead of a normal price line. This normally involves a fast and a slow-moving average.
The shorter or faster moving average is based on a smaller number of periods, while the longer or slower moving average is over a larger number of periods. So, the short-term moving average dashes around while the longer-term average gently providers overall direction.
The following chart is an example of the use of two moving averages: the red being the slower and the green the faster.

A signal to go long is given when the fast-moving average crosses from below to above the slower-moving average.
On the other hand, a signal to go short is given when the fast-moving average crosses from above to below the slower-moving average.
In the example, an investor or trader could buy the market as the averages cross higher and sell their holdings as the moving average cross lower. This works out pretty well over the course of the bull market, with a buy signal given in mid 2003 and a sell signal in early 2008.
There are plenty of traders that use three, four or even more moving averages.
Typically, the more moving averages you use, the higher the probability of getting your trade right. However, you will get far fewer trades, and you will probably capture less of the move.