When I look at a daily chart, I pay attention to where current price is relative to the 50- and 200-day simple moving averages. If the price is above both, then a bullish scenario is supported. If it's below both, a bearish scenario is favored. This aside, if the five-day exponential moving average is above the 13-day EMA, the bulls are supported, while the inverse favors the bears.
When all the moving averages on the daily chart support the same scenario -- be it bullish or bearish -- it's easy to know which side to favor.
For example, in recent weeks Amazon's (AMZN) path of least resistance has been down: The price was below the 200- and 50-day SMAs, and the five-day EMA was clearly below the 13-day line. Our strategy there was to sell the rallies, as the bearish trend was expected to continue. At this point, I am backing off the sell side in this stock, as Amazon has just about met a key downside target into timing, and I'd consider it a crapshoot to hold this stock through the company's earnings release.
But what happens when the moving averages are not in agreement? Which side of the market do you focus on? Well, you then have to rely on other technical information to define your trade setups, and you'll want monitor the stock closely from one key level to the next. In other words, be quick to exit a trade unless the next decision point can be taken out.
Let me walk you through an example of this in LinkedIn (LNKD). The tug-of-war in this stock is still in play, as a case exists for trading both sides of this stock.
On the bullish side, LinkedIn is above its 200-day SMA, a level that can often provide technical support. Beyond that, the prior major decline in LinkedIn came to $44.94, as illustrated on the daily chart above, and the decline into the Thursday low came to $44.67 -- a 100% projection of that prior swing. That extension came in at $187.34, which also overlapped a 1.272 extension of a prior minor swing at $186.03.
This is what provides for a buy side setup against the $186.03-to-$187.34 area. You can see on this chart that at least a $14 bounce was seen from this support area.
You can also see that the stock smacked into a very important resistance decision on the way up. This resistance -- and bearish scenario -- came in at the $202.50-to-$205.09 area, which includes two key retracements of prior swings and two 100% projections of prior rallies. Bears can point to the fact that LinkedIn is trading below the 50-day SMA, and that the five-day EMA is below the 13-day EMA.
So which of these scenarios should you bet against?
The answer is: Both trade setups are valid. You might choose either the bullish or the bearish zone in defining your risk -- and so far both zones are holding! Alternatively, you could wait and see if LinkedIn clears the resistance level as the stock holds above the recent support. If that happens, the bulls will have won the recent tug-of-war. Such a move would also indicate that the recent low is important, which would in turn suggest that the upside potential comes in far above Amazon's current level of $244! At that time, it would definitely be a safer and higher-probability bet to focus on the buy side.
We never really know what any given stock is going to do, but we can still place some educated bets off the technical tools and information we do have, and then manage our trades. If you prefer higher-probability setups for a longer-term swing trade or investment, I suggest you wait for the $202-to-$205 area to be cleared before you place your bullish bets on LinkedIn.
