This filter looks at two different Moving Averages for considering an instrument as a buy/sell. One Moving Average usually has a shorter duration than the other. If this shorter Moving Average is above (or below) the longer Moving Average, then the instrument will be considered.
The idea is pretty similar to the “SMA Position filter”, in which you see whether the instrument's closing price is above/below its Simple Moving Average. So, if it closes above, it indicates a potential uptrend (or the uptrend is still strong), thus good for entering that position; if it closes below the SMA, then a potential downtrend, thus a condition to exit.
But with this “MA Cross Over filter”, instead of the instrument's closing prices, we're looking at the shorter Moving Average. The idea is to generate a more valid trading signal, since a single closing-price could just be noise, while the averaged closing-prices give a better representation of how the price behaves.
So, if the shorter MA crosses above the longer MA, then the instrument is likely experiencing an uptrend; good for entering that position. And if the shorter MA crosses below the longer MA, it's likely the position is experiencing a downtrend; a reason to exit that position (or initiate a Short Selling).
These are known as Golden Cross (bullish) and Death Cross (bearish), respectively. Most market professionals see such phenomena (especially for major indices) like teenage girls would see Justin Bieber's latest fad. It's popular, but it's usually not as reliable as they make it sound. Therefore it's best advised to use them with other confirming indicators, like momentum oscillators or the Smart Money Indicator.
1. The first parameter defines the period for the shorter MA.
Common values for swing traders are either 14, 23, or 50 days. Major indices' Golden and Death Crosses tend to have 50-day shorter MA against a 200-day longer MA slapped on them.
Obviously, you can enter a longer period here than the longer MA, but that doesn't make sense unless you’re doing Short Selling.
2. The second parameter defines what kind of shorter Moving Average to calculate. You can choose either SMA (Simple Moving Average) or EMA (Exponential Moving Average) here.
EMA responds quicker to recent price changes, so it's better for short-term traders (or for use in a volatile market). But you can't go wrong when using SMA either.
3. The third parameter defines whether the shorter MA must be “Above” or “Below” the longer MA for the instrument to be considered. For a Buy Filter, set this to “Above”, while for a Sell Filter, set it “Below”.
The reverse is true if you plan on trading Short Positions: set this to “Below” to look for downtrending instruments to enter, and set the Sell Filter to “Above” to indicate uptrending Positions you must close.
4. The fourth parameter defines the length of the longer MA.
200 days is the norm here (unless you're a short-term swing trader).
5. The fifth parameter defines the type of the longer Moving Average, whether SMA or EMA.
Once this filter is applied, two MA indicators appear on the instrument's Price Chart. One indicator is for the shorter MA, and the other indicator is for the longer MA.
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