The Dow just flashed a widely followed technical buy signal, suggesting more gains in the future
- The Dow Jones Industrial Average triggered a widely followed technical buy signal on Thursday, suggesting more upside in stocks ahead.
- The golden cross is a moving average crossover strategy employed by technical analysts to signal when to buy a security.
- The golden cross is triggered when a short-term moving average, typically the 50-day, crosses above a long-term moving average, typically the 200-day.
- While the Dow Jones index triggered the golden cross signal on Thursday, the S&P 500 and Nasdaq 100 indexes already experienced a golden cross in early July and early June, respectively.
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A closely followed technical buy signal was just triggered in the Dow Jones industrial average, suggesting there's more upside ahead for stocks.
On Thursday, the Dow Jones experienced a bullish golden cross, which occurs when the shorter-term 50-day moving average crosses above the longer-term 200-day moving average. The moving average crossover signal is widely followed by technical analysts and traders.
The lagging indicator can help alert traders to securities in the stock market that are solidifying their uptrend and are likely to experience a continuation, resulting in higher stock prices.
While the Dow Jones just completed its golden cross on Thursday, the Nasdaq 100 index experienced a golden cross signal on June 2, and the S&P 500 experienced a golden cross on July 9.
Since its golden cross, the Nasdaq 100 has risen by 16%, while the S&P 500 has jumped 6% higher, based on Thursday closing prices.
The opposite signal to the golden cross is the death cross, which is a sell signal that triggers when the 50-day moving average crosses below the 200-day moving average.
The golden cross signal is one of many trading patterns that technical analysts employ to buy stocks. Meanwhile, the bearish death cross is one of many trading patterns that traders use to sell stocks.
The Dow Jones experienced a death cross on March 23 amid the coronavirus-induced market sell-off, the same day stocks bottomed.
Since March 23, the Dow Jones the has risen by 47%, which highlights that these buy and sell signals are lagging indicators and often throw off false signals, also known as whipsaws.
Data compiled by The Chart Report suggests that the golden cross has a success rate of 60% to 64%. Ian McMillan analyzed a total of 81 golden crosses that occurred in the Dow Jones industrial average dating back to its inception in 1896.
The analysis found that on average, stocks were higher three months after a golden cross 61.7% of the time, and higher six months after the golden cross 64.2% of the time.
The average three-month return when stocks were higher after a golden cross was 7.33%, while the average return six months after the golden cross was 10.65%.
To stress the point that moving average crossover signals are not perfect, Ari Wald, head of technical analysis at Oppenheimer & Co., said to The Chart Report, "All big rallies start with a golden cross, but not all golden crosses lead to a big rally."
Finally, it's worth noting that the Dow Jones is going to look a bit different at the end of the month, when Apple enacts its planned 4-for-1 stock split.
Because the Dow is a price-weighted average, Apple's decision to quarter its stock price will reduce the Dow's allocation to Apple, which is currently its top holding.
So while the golden cross in the Dow Jones signals that there may be more upside ahead, don't expect Apple to have as big of an impact next month on the Dow as it did during the recent market rally.