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Golden Cross Trading in the Gold Market
BY Janne Muta
|July 3, 2024Understanding the Golden Cross
The Golden Cross trading signal is a bullish breakout signal formed by a crossover involving a security’s short-term moving average (such as the 50-day moving average) and its long-term moving average (such as the 200-day moving average). The Golden Cross signifies the potential for a major rally in a market and the pattern is generally viewed as a strong buy signal. The opposite occurrence, a fast SMA(50) crossing below the slower SMA(200) is known as Death Cross. These signals can occur in all freely traded markets ranging from stocks to commodities and Forex. This article, however, focuses on the gold market with an extensive study covering almost 100 years of daily price data.
The Mechanics of the Golden Cross
Moving averages are the cornerstone of the Golden Cross pattern. A moving average smooths out price data by creating a constantly updated average price. The most common periods used are the 50-day and the 200-day moving averages. The short-term moving average represents the average price over the last 50 days, while the long-term moving average represents the average price over the last 200 days.
Golden Cross Trading
Golden Cross trading is a widely discussed concept, known for signalling potential bullish market movements. However, most explanations focus on its theoretical aspects rather than empirical validation. In this article, we aim to bridge that gap by examining historical data from the gold market to evaluate the effectiveness of not only the Golden Cross signals but also the opposite: The Death Cross where the faster SMA 50 crosses below the slower 200 period SMA. By understanding past market behaviours following these signals, we can make more informed decisions.
Effectiveness Analysis of SMA Crossover Signals in Gold
The effectiveness of the Golden Cross trading system, where a 50-period SMA crosses above a 200-period SMA, has been claimed to have a declining performance in recent years. To assess this claim, we examined the frequency of bullish and bearish crossover signals in daily gold data across several decades.
Crossover Frequency Analysis by decades
The first table illustrates the number of bullish and bearish crossovers per decade from January 1970 to July 2020. As gold is a trending market by nature the number of crossovers is relatively low compared to some other more active strategies.
In the 1970s, the gold market experienced three bullish crossovers and two bearish crossovers, totalling five. The 1980s followed with two bullish and three bearish crossovers, also summing up to five. The 1990s witnessed the highest activity, featuring seven bullish and seven bearish crossovers, totalling fourteen. The 2000s had five bullish and five bearish crossovers, making a total of ten. In the 2010s, the market saw seven bullish and seven bearish crossovers, again totalling fourteen. Despite being incomplete, the 2020s already show four bullish and five bearish crossovers, totalling nine.
As statistics show the number of crossovers increased substantially from 1990s onwards. This suggests the gold market became more efficient making the long profitable trends seen in the 1970s and 1980s a rarity. The crossover signals compared to 1970s have increased by up to 180% after 1990.
Implications for Trend Following Strategies
The uptick in crossover signals suggests there are more frequent market fluctuations rather than sustained trends. Since SMA crossover systems are trend following systems they perform better in trending markets while markets that fluctuate more often degrade their profitability.
Therefore, our findings support the claim that trend-following strategies like the Golden Cross trading signals may not be as effective in the gold market nowadays as they used to be in the 70s and 80s. The higher frequency of crossovers suggests more market volatility and fewer sustained trends, aligning with the observation that these systems struggle in non-trending, choppy markets. This trend could explain why these strategies have not performed as well in recent years compared to their success in the trending markets of the 1970s and 1980s.
Adverse Moves After Bullish Crossovers
The chart illustrates the price movements in the gold market following a Golden Cross trading signal, which occurred on January 15th, 2019. Despite the Golden Cross being a bullish signal, the market did not immediately rally. Instead, after an initial rally there was a retracement of 2.18%, (indicated by a decline of 28.286 points over 69 bars, equivalent to 98 days). This period was marked by market volatility and consolidation, as depicted in the above chart.
It wasn't until the end of May 2019 that the gold market began a sustained upward movement. The chart demonstrates that even after bullish signals, the market can experience sizeable adverse moves before a significant rally ensues. This highlights the importance of patience and caution in trading, as initial bullish signals may not always lead to immediate gains.
The daily gold chart above shows a sizeable rally following the Golden Cross trading signal to buy gold at 1,293. The Golden Cross buy signal, on January 16th, 2019 indicated a bullish trend in the market but no one knew how massive the rally following the signal would be. After this signal, the market experienced a significant rally, increasing by 781 points to reach a peak. Eventually there was a trend reversal and the market started to move lower creating a Death Cross signal.
On February 17th, 2021, a Death Cross sell signal emerged at a price of $1,776, suggesting a bearish trend. The Death Cross often indicates a potential downturn, marking a point where traders might consider selling to avoid further losses. This chart illustrates the cyclical nature of market trends, emphasising the importance of monitoring technical signals to make informed trading decisions. The contrast between the Golden Cross and Death Cross demonstrates the dynamic and ever-changing nature of the gold market.
The chart above shows the gold market's price consolidation from January 2021 to February 2022 amidst several crossover signals. This directionless price action highlights the challenges of using SMA crossover signals for trading.
Throughout 2021 and early 2022, the market experienced multiple golden cross trading signals and bearish crossovers. Notably, a bullish crossover occurred on June 29th, 2021, at $1,761, followed by a bearish crossover on August 9th, 2021, at $1,729. Another bullish signal appeared on December 2nd, 2021, at $1,768, and a subsequent bearish signal was seen on January 27th, 2022, at $1,796. Note how in August 2021 and January 2022 the bearish SMA crossover signals come right at the time of market trading near levels where it turned higher from.
Weaknesses of the Golden Cross Signals
These frequent crossover signals, accompanied by periods of consolidation, illustrate some weaknesses of the Golden Cross and other SMA crossover methods. During these consolidation phases, the market lacks clear direction, leading to false signals and whipsaws that can confuse traders and are likely to create deep drawdowns for those employing a trend following strategy. The seesaw nature of price movements without a definitive trend makes it challenging to rely solely on these signals for trading decisions.
Despite these challenges, a notable bullish crossover signal on February 11th, 2022, at $1,858, indicates a strong upward momentum. This final signal before the chart ends suggests that while SMA crossovers can be unreliable during consolidation periods, they still hold value in identifying significant trends. Traders must combine these signals with other technical indicators and market analysis to mitigate risks and improve decision-making accuracy. This chart underscores the importance of a comprehensive approach to trading, balancing technical signals with broader market context.
The chart illustrates the effectiveness of the last SMA crossover signal in capturing a significant rally in the gold market. The bullish crossover on February 11th, 2022, at $1,858, signalled a strong upward trend. This signal proved valuable for trend followers, as it marked the beginning of a substantial rally, pushing the gold market close to its all-time high (ATH) of $2,072.843.
This rally highlights the potential gains from adhering to SMA crossover signals during clear trend periods. The market's rise following the signal exemplifies the value of technical indicators in identifying profitable trading opportunities. The chart emphasises the importance of context and the broader market environment when interpreting crossover signals.
Trend following works by capitalising on sustained market movements. Using strategies built around Golden Cross trading signals, traders enter positions when a bullish crossover occurs, indicating a potential upward trend. Profits are generated during these trending periods as the market continues to move in the predicted direction while the losses occur during market choppiness and false signals. Readers should do their own research to build trend following strategies that have a statistical edge and a long-term positive expectancy. By sticking to such strategy after vigorous research traders might achieve overall profitability.
Day trading the Golden Cross Trading Signals?
Would it make sense to day trade the Golden Cross Trading signals? What about the Death Cross signals? The data shows that the day following a bullish crossover signal is an up day 42.86% of the time, while the day following a bearish crossover signal is a down day 72.41% of the time. These percentages suggest that bearish crossover signals more reliably predict the expected market direction than bullish signals. This discrepancy highlights potential challenges in using bullish crossovers for short-term trading strategies and suggests that bearish signals may offer more consistent short-term predictive value in market movements.
Bullish Crossovers
For bullish crossovers, the next day range varies from -$42.88 to $23.75, with significant profits noted on certain days, such as $23.75 on 2009-02-10 and $23.53 on 2023-01-12. The average next-day price change is approximately -$1.10, indicating a tendency towards a slight decline. However, given the substantial variation in the next day ranges, day trading the gold market the day after a bullish crossover seems justified. Traders are, however, encouraged to do further studies and testing using demo accounts before risking real funds.
Bearish Crossovers
For bearish crossovers, the down-day dollar sizes range from -$25.52 to $9.60, with significant down moves recorded, such as -$25.52 on 2022-07-05 and -$18.13 on 2021-02-16. With a 72.41% chance of the day following a bearish crossover being a down day, the potential on the downside (at least in the light of this data) could be considerable. The average next-day price change is approximately -$2.92. This consistency suggests it is worth studying whether a robust shorting strategy could be created for going short the day after a bearish crossover.
Lower Success Rate
The data suggests that day trading based on Golden Cross (bullish crossover) signals presents challenges due to a lower success rate (42.86%) and a slight average decline (-$1.10). Conversely, Death Cross (bearish crossover) signals are more reliable, with a higher success rate (72.41%) and an average next-day decline of -$2.92.
Does it make sense to swing trade after Golden Cross Trading Signals?
When extending the holding period to five days, the average moves for bullish signals become -$2.17, suggesting a tendency toward negative returns. The total losses over this period are not specified by our study, but the average indicates a challenging environment for swing trading profits. Notably, bullish signals show more substantial downside risks within this period.
Extended Holding Periods After Golden Cross Trading Signals
Our analysis shows that holding periods after Golden Cross Trading signals should exceed 500 days, extending even to 1000 days, for the strategy to gain meaningful returns. For holding periods of 100 to 300 days, mean returns are low or negative, indicating insufficient gains. However, periods of 500 days and beyond yield higher average returns, with mean returns of 21.46 for 500 days and 123.84 for 1000 days. As per our study the potential for gain increases with longer holding periods but comes with increased risk as shown by greater standard deviation values. Once again traders should do their own research before trading the markets based on the study results.
Conclusion
In conclusion, the analysis of Golden Cross and Death Cross signals in the gold market reveals nuanced insights for traders. While the Golden Cross has historically been a bullish indicator, its effectiveness in recent years appears diminished, likely due to increased market volatility and frequent fluctuations. Short-term trading, particularly following Death Cross signals, proves more consistent and potentially profitable, with a 72.41% success rate. Conversely, bullish signals show a lower success rate and minor average declines, suggesting challenges in short-term trading. Thus, traders might want to study further if prioritising short-term bearish strategies and long-term holdings for bullish signals would maximise returns. Ready to start trading the gold and Forex markets? Visit TIOmarkets.uk to open an account now with a UK Regulated broker.
While research has been undertaken to compile the above content, it remains an informational and educational piece only. None of the content provided constitutes any form of investment advice.
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Janne Muta holds an M.Sc in finance and has over 20 years experience in analysing and trading the financial markets.
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