The most well-liked trading tools are, without a doubt moving averages. Moving averages are fantastic if you know how to utilize them. Unfortunately, most tradersmake catastrophic errors when using moving averages in trading. In this post, I outline the three methods you can use moving averages to make trading decisions, along with the information you need to choose the kind and length of the ideal moving average.
A moving average, the average of any subset of values, is a method for understanding the patterns in a data set. For predicting long-term patterns, the moving average is quite helpful. It can be calculated for any time frame.
Moving averages: Types
Simple moving averages (SMA), weighted moving averages (WMA), and exponential moving averages are the three main types of moving averages (EMA).
simple moving average (SMA)
Analysts and investors use the SMA indicator in the financial markets to identify buy and sell recommendations for stocks. In addition, the SMA aids in locating price levels of support and resistance to generate indications for when to enter or quit a trade.
the formula for a simple moving average
The following is the formula for calculating SMA:
SMA = (A1 + A2 + ……….An) / n
- A represents the period n average.
- The number of periods is n.
Exponential Moving Average (EMA)
The exponential moving average (EMA), which provides more weight to recent price points to make them more responsive to current data points, is the other type of moving average.
The three steps indicated below are used to calculate the exponential moving average:
- Determine the period’s simple moving average.
The simple moving average is utilized as the EMA’s starting point for the preceding period because the EMA must start somewhere. It is calculated by adding the closing prices of the securities across the relevant time and dividing the result by the total value of periods.
- Determine the weighting factor for the exponential moving average.
The Multiplier is calculated using the following formula:
A multiplier is equal to [2 / (Selected Time Period Plus 1)]
For instance, the Multiplier will be determined as follows if the time frame in question is 10:
The Multiplier is [2 / (10+1)] and equals 0.1818.
- Calculating the current exponential moving average is the final step.
In the final phase, the price, Multiplier, and EMA value from the previous period are used to determine the current EMA by taking the time between the starting EMA and the most recent period. It is calculated using the formula below:
Closing Price – EMA (Previous time)] x Multiplier + EMA is the formula for the current EMA (Previous time)
A longer-period EMA weighs current price data more heavily than a shorter-period EMA. Recent price points of a 10-period EMA are multiplied by 18.18%, while recent price points of a 20-period EMA are multiplied by 9.52%.
According to the preferences and approach of the trader, moving averages can be adjusted for any time frame. A moving average is a smooth, curved line that visually shows a security’s longer-term trend when used as a technical indicator.