Moving Average, MA is the technical indicator, that calculates average values of price for period. Moving averages «smooths» price oscillations, that gives more objective estimation of prices movement. It is trend indicator, that can show trend direction on the market qualitatively. Often moving averages can act as support/resistance lines. Main disadvantage of it, as of most other technical indicator, is delay.
Moving avrages is one of oldest instruments of analysis, It was used to design many other indicators: MACD, Bollondger band and etc.
Settings of the indicator:
- Period – number of bars to build MA
- Offset – number of bars to offset in forward
- MA method – algorithm of average
- Simple moving average (Simple, SMA) – The sum of the prices / Period
- Weighted moving average (Weighted, WMA) – The sum (the price * the weight) / the sum of the all weights; The weights match the position of the bar
- Exponentially moving average (Exponentially, EMA) – EMA(i-1) + (K*[Price – EMA(i-1)]), K= 2/(n+1)
- «Apply to» - is the property of the bar, which average is applied to
Features of МА, that affect on the choise:
- on the long time frames (4-hour and more) it is better to use MA with the short period
- the longer period causes the more indicator delay, such МА are called slow; main benefit of this МА is the filtering of market noises, main disadvantage is the late indication
- the shorter period of МА (such МА are called fast), causes the more quick indacation, but many false noises – price often intersects МА line
- МА method also affects on indicator delay, for example, ЕМА more operative reflects price changes.
Method of using the moving averages:
single МА – The principle of apply is simple: intersection by price of MA line reflects that direction of trend changes
By МА it is possible to dtermine three market states:
- Up trend (blue up arrow) – prices is above MA
- Down trend (red down arrow) – prices is under MA
- Flat - prices intersect MA and form the «channel».
When the trend is present, МА line is support/resistance line for it, therefore, when price «push of» from the МА it is possible to enter into the market.
In the situation of the flat it is desireable to wait trend and don't enter into the market
Using MA jointly with price models (figures of the technical analysis, for example, «Head and shoulders», «Double bottom») it is possible to detect direction reversal and to enter into the market at the time of formation of new trend
- the intersection of two moving averages – is used two МА with different periods: «fast» and «slow». Intersection of that МА indicates about the new direction of the trend:
- Intersection of fast МА the slow MA of the top to bottom indicates that new down trend formed
- Intersection of fast МА the slow MA of the bottom to top indicates that new up trend formed
In the case of the picture below was used fast МА, red - EMA(9) and slow МА, blue – ЕМА(18).
As МА is the delaying indicator, the intersection of MA indicates but only about the changing direction, not about it duration (case 2), therefore when price enter into the area between MA it's necessary to set stop-loss on the extremum, was formed by push off price from this area.The exit from area between MAs in the direction of the trend also don't indicates about trend force (case 1), therefore stop-losses help you to save deposit in the case of strong price changes
the intersection of three moving averages – is used fast МА, green - EMA(4); fast МА, red - EMA(9) and slow МА, blue – ЕМА(18).
The intersection of МА(9) and МА(18) indicates about of change direction of the trend and of enter into the market, intersection of МА(4) и МА(9) indicates that it is necessary to close deal.
- Using moving averages jointly with other technics. It is possible to use МА, for example, for the trend building, to define the trend direction, but in this case, main signal for enter into the market is the other indicators or technics.