Hey There Income Hunters,
When looking at the markets, you must use multiple inputs as an overall process for efficient risk management
The good news is, I can show you the process and how to combine these inputs to come up with low risk/high reward trades.
The most obvious input is price. And the price is, well, right.
We can always have opinions and feelings about the “value” of an asset. However, at any given moment the price is its value …
Volume and Volatility
In order to play the probabilities of an asset rising or falling, we need to manage two other variables:
- Volume associated with a move
- Rate of change of volatility associated with the move
- Moving Averages and RSI
Lastly, I like to use short-term and long-term moving averages and the Relative Strength Index (RSI).
How the market trades when testing the key averages can be great entry and exit points for trades. They can also be used as a strategy that provides excellent low risk/high reward opportunities.
Today I will give you the averages that work best for SPX and backtest the RSI over the past year to show you the signals to look for to jump on some juicy profits.
The Best Moving Average for the SPX
50-Day Moving Average
The 50-day moving average is the trend strength detector. Here are a few key characteristics of the 50 DMA …
- The slope tells you about the trend in the medium term. So, if it is upsloping, you are in a bullish medium term trend and vice versa.
- Once a bull trend is established, the probabilities are to get 2-3 pullbacks to the 50 DMA after prices break out to the upside.
- Institutions often use the pullbacks to add to existing positions.
- The long-term trend comes under pressure when SPY breaks down below the 50 DMA on high volume and rising volatility.
When you can see those three conditions evolving during the day of the potential breakdown, you can jump on a bearish strategy.
That is a great low risk/high reward trade because your stop-loss is a trade back above the 50-day.
120-Day Moving Average
The 120 DMA is what I use for the long-term moving average. I have backtested this and it is much more valuable for SPY than the 200 DMA and you’ll see why …
Just executing a buy strategy on the tests of the 50 DMA and selling when the RSI signaled an overbought condition provided awesome returns.
In seven months, there were six excellent opportunities to capture nice profits by trading SPX against the 50 DMA and selling based on RSI …
Let’s look at each one:
- A buy against the 50 DMA to enter a position, with a sale as RSI went into the overbought condition. This trade provided 7% gain. I will just show price gain but always can be a multiple when using options …
- A buy at the 50 DMA with a chance to add at #3 when it touched it again …
- The buy at 2&3 gave you a 7+% and 4.6% gain respectively …
- The buy at the 50 DMA and sale based on the negative price/RSI divergence was another 7% gain …
- This was an opportunity to buy against the 120 DMA and a positive RSI/Price divergence …
This same strategy works well for many stocks and ETFs and it’s pretty easy to backtest them to find the best products to apply them to …
Bring It Home
By building strategies that can be used consistently across multiple products. you eliminate the noise and emotions from trading.
I like to find the best risk/reward strategies and apply them to as many products that fit my macro view as I can.
If you can make 50+% returns and use stop-loss orders to limit your losses to 20% at most, then you are way ahead of the game.
That style of trading allows you to be wrong more than you are right — and still beat the markets.
Tomorrow we’ll look at an option strategy that maximizes your profits.
Until then …
Live and Trade With passion My Friends,