In my previous newsletters, I have explained Exponential Moving Averages as a trend filtering tool for traders where we have often concluded that Price trading above EMA is in a bullish trend and Price trading below the EMA is in a bearish trend. The logic behind this is that EMA consider the closing price as a data set for its calculation. The line shows where the average closing price is for the past sessions.

In this short newsletter we look at how EMA can be used to create an investing setup. In this way, someone who doesn’t have a lot of time on hand can also benefit.

But What if we could use this logic for Investing?

The same trend analysis and filtering logic can be used to create an investment setup. This setup is ideal for those who can spend a few hours each month selecting investments and reviewing their portfolio. It consists of two parts: the analysis timeframe and the EMA setting.

Part 1: Timeframe of analysis

When looking for stocks to trade, we usually look at small timeframes like 15-minute, 75 min or daily timeframe. This gives us an idea about what the stock will do in the next few sessions of 15-minute, 75-minute or days. The same way, when we look at a Monthly Timeframe, the prediction is for the next few months. Investments usually involve a holding period of a few years. With this logic, using a Monthly timeframe for analysis makes sense. This makes for the first part of the set up

Part 2: The EMA setting

The second part consists of choosing the right EMA setting. When using EMA for trading, we want it to be quick adapting for fast decision making. But there is no hurry in Investment. The decisions can be taken in a few days. In my experience, I have found 89-period moving average to be the best setting for an investment timeframe. This moving average also ensures that when the stock is seeing a correction or is falling, this line acts as an important support level.

There are stock with very good fundamentals that are in momentum and rarely touch the 89-period EMA. It is sometimes possible that the mean reversion till the 89-period EMA line can result in the stock underperforming the markets.

For this reason, the investor can replace 89 period with 21-period. Using 21-period EMA also ensures early exit and early entry into the investments. 21-period EMA setting is great when the investor wants to build a momentum portfolio. This is a great setting for someone who can devout a few hours a month to review their portfolio.

It is important to note that the trader must use any one of the EMA settings only.

Putting it together

The investor would make the investment when the price forms a bullish pattern near the 89 period EMA line and exits the investment when the price moves below the 89 period EMA line. When the price corrects on the Monthly timeframe, it usually takes support from the 89 period EMA line. Any bullish pattern here is a great opportunity for adding to the investment.

Observe the chart below of ABB. The EMA used is 89-period. The boxes marked below are Market Structure Low patterns. These are bullish patterns that are powerful when formed near the EMA line. The marked boxes could have been wonderful opportunity to invest.

Observe the chart below of GRASIM. This chart uses the 21 EMA line. It can be observed that when the price reverted back to the EMA line, a Market Structure Low pattern formed (Marked in red box). This pattern is a bullish pattern near the EMA line. This could have been a great opportunity for a fresh investment or to further invest. The 21 period EMA also allowed the investor to exit early when the price moved below the line in August 2018.

Observe the chart below of PERSISTENT. The chart shows how the price is closely following the 21 period EMA line. The marked boxes are the Market Structure Low pattern near the EMA line.

Observe the chart below of BDL where 21-period EMA line is used. This stock started outperforming the markets in Jan 2022 on Monthly Relative Strength charts. At the same time, the price charts formed a Bullish Marubozu pattern. Later, when the price reverted to the 21 period EMA line, it formed a Market Structure Low pattern.

Observe the chart below of BEL with 21-period EMA line. This stock started its outperformance on Monthly Relative strength chart in May 2021. The marked boxes are the bullish patterns which could have given the investor rare opportunity to invest or pyramid (add to) the investment.

Observe the chart below of COCHINSHIP. The price chart shows the point at which the stock could have been considered for investment for a long term.

Observe the chart below of MAZDOCK. This is a stock from the defense sector which has been outperforming since its IPO. The marked boxes are the Market Structure Lows at which the investor could have considered the stock to add to the Momentum portfolio.

If you found this investment setup interesting and are curious as to how to spot different patterns and how to use candlestick charts for both, trading and investing, check out my course on Candlestick charts. I explain how to calculate and use indicators such as RSI, ADX, Super trend, and Moving Average. I have also shared an explanation on how to combine these indicators with candlestick patterns to build a trade setup for yourself and one that is unique to you as a trader or an investor.