Moving Average (MA)
Moving Average (MA) is a technical indicator that reacts to the trends of the financial markets and is used by market experts to predict the direction of an asset's trend.
What Is a Moving Average (MA)?
The Moving Average (MA) indicator helps traders in smoothing out price fluctuations and determining the actual trend. The basic idea behind the moving average is to take the average price for an X amount of periods of an asset.
Moving averages help traders with price analysis. It also helps them in determining their next potential move in the markets.
The graph of a Moving Average (MA) usually consists of two lines:
The gap between the yellow and purple lines indicates high amounts of volume. Whenever the yellow line crosses the purple line from above the price of the asset decreases. This is also known as a death cross. In the graph above you can see a major drop in volume as the yellow line creates a death cross with the purple line after dissecting it from above. On the other hand, when the yellow line crosses the purple line from below a golden cross is formed, as seen at the right-hand side of the graph.
Note: A significant gap between the yellow and purple lines signifies a large amount of volume. If the yellow line is above the purple line and the gap between them is significant then the price of an asset is experiencing a bullish run. The opposite is true in the case of a bearish trend where the purple line has crossed the yellow one from below and there is a huge gap that represents a volume difference between the two lines.
Why Is Moving Average (MA) Used?
The moving average is used by market analysts
to determine the support and resistance
of an asset by evaluating its movements in the market. The moving average paints a clear picture of the price action
which can be used by investors to determine a potential bullish or bearish run.
What Is the Best Setting for Moving Average (MA)?
The ideal settings for Moving Average (MA) are the following:
Types of Moving Averages
In general, there are four types of moving averages. Simple or Arithmetic, Smoothed, Exponential, and Weighted. The most popular ones in the financial markets are two: Simple Moving Average (SMA) and Exponential Moving Average (EMA).
Simple Moving Average (SMA)
A Simple Moving Average (SMA) is calculated by taking a sum of all the data points in a given time period and then dividing it by the total number of time periods.
Here’s how you can calculate the Simple Moving Average (SMA):
n = Total number of time periods
A = Average in a period ‘n’
Exponential Moving Average (EMA)
Exponential Moving Average (EMA) is usually preferred by traders more than the Simple Moving Average (SMA). The reason behind this is that EMA focuses more on the recent price data and also keeps the older price observation in place for the traders to analyze and make an accurate investment decision.
Here’s how you can calculate the Exponential Moving Average (EMA):
Where EMA = Exponential Moving Average
Smoothing = 2
You can increase the smoothing factor if you want the recent price observations to have a greater influence on the EMA technical indicator.
Moving Average (MA) is a great indicator that is used by a lot of traders
, however, a combination of multiple technical indicators
is preferred for determining the direction of the market accurately. Other commonly used technical indicators (TA’s) include relative strength index (RSI
), Moving Average Convergence Divergence (MACD
), on-balance volume (OBV
), Aroon indicator
, and the stochastic oscillator
. All of these indicators have their specific benefits as they allow a trader to view an asset’s chart from multiple angles and come up with a better investment decision.