1 HANTEC RESEARCH WEBINARS - TECHNICAL ANALYSIS SERIES Simple Moving Average (SMA) This is the most common method used to calculate the moving average of prices. Each point is calculated as the sum of all of the past closing prices over the time period divided it by the number of prices used in the calculation. For example, in a 21 day SMA, the last 21 closing prices are added together and then divided by 21. Weighted Moving Average (WMA) The Weighted Moving Average is used to address the problem of the equal weighting. The WMA is calculated by taking the sum of all the closing prices over a certain time period and multiplying them by the position of the data point and then dividing by the sum of the number of periods. This is also referred to as “linear weighted” as the decrease in weighting is done on a linear basis. For example a 3 Day WMA would be (Today x 3) + (Yesterday x 2) + (2 days ago x 1) all divided by 6. Exponential Moving Average (EMA) The Exponential Moving Average calculation uses a smoothing factor to place a higher weighting on recent data points. The difference with the WMA is that the weighting decreases in an exponential basis. The most important factor to remember is that the EMA is more responsive to new information relative to the SMA. This responsiveness is one of the key factors of why it is the moving average of choice for many technical traders. It is generally considered much more efficient than the WMA. A moving average is the average price of a security over a set amount of time. By plotting the average price, the day-to-day fluctuations are removed and it is easier to identify the true trend. Moving averages help technical traders smooth out some of the noise and are used to identify current trends and trend reversals as well as to set up support and resistance levels. There are several different ways of looking at moving averages with a variety of calculations, however, the interpretation of each moving average remains the same. The calculations only differ in regards to the weighting that they place on the price data, shifting from equal weighting of each price point to more weight being placed on recent data. The most common types of moving averages are simple, exponential and weighted. Having a thorough understanding of the exact calculation is not generally required as most charting packages will do the calculation for you. BEGINNER / INTERMEDIATE 5. Trade with Moving Averages Figure 1: Simple, Weighted and Exponential Moving Averages on GBP/USD
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HANTEC RESEARCH WEBINARS - TECHNICAl ANAlySIS SERIES
Simple Moving Average (SMA) This is the most common method used to calculate the moving average of prices. Each point is calculated as the sum of all of the past closing prices over the time period divided it by the number of prices used in the calculation. For example, in a 21 day SMA, the last 21 closing prices are added together and then divided by 21.
Weighted Moving Average (WMA) The Weighted Moving Average is used to address the problem of the equal weighting. The WMA is calculated by taking the sum of all the closing prices over a certain time period and multiplying them by the position of the data point and then dividing by the sum of the number of periods. This is also referred to as “linear weighted” as the decrease in weighting is done on a linear basis. For example a 3 Day WMA would be (Today x 3) + (yesterday x 2) + (2 days ago x 1) all divided by 6.
Exponential Moving Average (EMA) The Exponential Moving Average calculation uses a smoothing factor to place a higher weighting on recent data points. The difference with the WMA is that the weighting decreases in an exponential basis. The most important factor to remember is that the EMA is more responsive to new information relative to the SMA. This responsiveness is one of the key factors of why it is the moving average of choice for many technical traders. It is generally considered much more efficient than the WMA.
A moving average is the average price of a security over a set amount of time. By plotting the average price, the day-to-day fluctuations are removed and it is easier to identify the true trend. Moving averages help technical traders smooth out some of the noise and are used to identify current trends and trend reversals as well as to set up support and resistance levels.
There are several different ways of looking at moving averages with a variety of calculations, however, the interpretation of each moving average remains the same. The calculations only differ in regards to the weighting that they place on the price data, shifting from equal weighting of each price point to more weight being placed on recent data. The most common types of moving averages are simple, exponential and weighted. Having a thorough understanding of the exact calculation is not generally required as most charting packages will do the calculation for you.
BEGINNER / INTERMEDIATE
5. Trade with Moving Averages
Figure 1: Simple, Weighted and Exponential Moving Averages on GBP/USD
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HANTEC RESEARCH WEBINARS - TECHNICAl ANAlySIS SERIES
5. Trade with Moving Averages
Which Moving Averages Should I Use?
Moving averages are effectively a trend indicator. Therefore, in the same way as you can look at trends of different time horizons, you can look at a different number of days for moving averages.
There is no hard and fast rule for which moving averages you should be looking at. Some traders like to use round numbers, such as 10, 20, 50 and 90 day moving averages, while others like to use Fibonacci numbers, such as 13, 21, 55 and 89. As a general rule, the 200 day moving average is thought to be a good measure of a trading year, a 100 day moving average of a half a year, a 50 day moving average of a quarter of a year and a 20 day moving average of a month. you will find that moving averages also work when you change the time frame of the chart. For example, if you are comfortable using the 21 and 55 day moving averages on the daily charts, you will often find that the 21 and 55 hour moving averages will continue to work as a gauge for price support when looking at hourly charts.
you will also find that some moving averages work excellently for one instrument, but not so well for another. It is a case of horses for courses as there is not always a “one size fits all”. Additionally over time, a moving average that worked well six months ago may not still be a good indicator now. For example, the 144 day SMA was an excellent indicator for gold between 2009 and 2011, but then the relationship broke down for almost two years before resuming in late 2013. It is advisable that traders check to see if the moving averages chosen are still providing good support and resistance, as it may be advisable to re-configure them periodically. In this way, traders should constantly be checking the validity of their indicators.
Using Moving Averages To Generate Trading
Signals
Having decided whether to use Simple, Weighted or Exponential Moving Averages, as well as the different length moving averages, you can now start looking for trading signals. It should be noted that trading using moving averages is more efficient in trending markets rather than sideways market conditions.
Moving averages can be used to quickly identify whether the price is moving in an uptrend or a downtrend depending on the direction of the moving average. When a moving average is advancing and the current price is above it, the price is generally considered to be in an uptrend. Conversely, a downward sloping moving average with the current market price below it generally signals a downtrend.
Another signal of a trend reversal is when one moving average crosses through another. When a shorter moving average crosses above a longer moving average, this can be used as a buy signal while a shorter moving average falling below a longer moving average can be seen as a sell signal. An even stronger buy signal is where both moving averages are rising as they cross. This is referred to as a “Golden Cross”, with the equivalent on the downside called a “Death Cross”.
As seen on Dollar/yen, the crossovers of the 21 day SMA and the 55 day SMA proved to be excellent signals for trend changes and generated a series of buy and sell signals during 2008 and 2009.
Figure 2: Crossovers of the 21 day SMA and 55 day SMA on USD/JPY in 2008 and 2009
Figure 4: Range trading using the Bollinger Bands on Silver
Risk Warning for Educational Material
This document is issued by Hantec Markets limited, who is authorised and regulated by the Financial Conduct Authority (FCA) in the UK, No. 502635. The document is prepared and distributed for information and education purposes only. Trading in Foreign Exchange (FX), Bullion and Contracts for Differences (CFDs) is not suitable for all investors due to the high risk nature of these products. Forex, Bullion and CFDs are leveraged products that can result in losses greater than your initial deposit. The value of an FX, Bullion or CFD position may be affected by a variety of factors, including but not limited to, price volatility, market volume, foreign exchange rates and liquidity. you may lose your entire initial stake and you may be required to make additional payments. Please ensure you fully understand the risks involved, seeking independent advice if necessary prior to entering into such transactions. Before deciding to enter into FX, Bullion and/or CFD trading, you should carefully consider your investment objectives, level of experience, and risk appetite. you should only invest in FX, Bullion and/or CFD trading with funds you are prepared to lose entirely. Therefore, only your excess funds should be placed at risk and anyone who does not have such excess funds should completely refrain from engaging in FX and/or CFD trading. Do not rely on past performance figures. If you are in any doubt, please seek further independent advice. This document does not constitute personal investment advice, nor does it take into account the individual financial circumstances or objectives of the clients who receive it. All information and research produced by Hantec Markets is intended to be general in nature; it does not constitute a recommendation or offer for the purchase or sale of any financial instrument, nor should it be construed as such. All of the views or suggestions within this document are those solely and exclusively of the author, and accurately reflect his personal views about any and all of the subject instruments and are presented to the best of the author’s knowledge. Any person relying on this document to undertake trading does so entirely at his/her own risk and Hantec Markets does not accept any liability.
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