Moving averages are considered primary technical analysis tools. They are used to smooth out short-term data to better identify long-term trends or cycles. While moving averages can be calculated for any period, the most popular are 20-day, 50-day, 100-day, and 200-day moving averages.
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WHAT ARE MOVING AVERAGES
A moving average calculates the average price of a security over a given number of periods. So, if you wanted to calculate the 200-day moving average, you would add the prices of the last 200 days and divide this sum by 200.
Since moving averages are lagging indicators, they will always be behind price action. This is why you will sometimes see that traders refer to them as trend-following indicators. The longer the period for the moving average, the greater the lag between it and the spot price (check out this video for how to use simple moving averages).
Trading with the | 27 Simple Moving Average
For example, if we looked at the closing price for the last 50 days
, we’d add the last 50 closing prices and then divide by 50 to get the average closing price for those 50 days (this is called the “simple” moving average). Thankfully, most chart indicators do this for us and simply plot the value like a line.
There are four popular types of moving averages:
- Simple (also known as Arithmetic)
- exponential
- weighted
- Linear regression
Simple moving averages
give the same weighting to each price over the period, while exponential moving averages reduce this weighting over time. The type of moving average you use is entirely up to you. Models that incorporate long-term moving averages into their forecasts are generally more successful than models that incorporate only short-term moving averages.
Again, all of this will depend on your strategy and how often you trade.
50-DAY MOVING AVERAGE
The 50-period moving average is perhaps the most popular trading indicator. When the price exceeds a moving average, it can be used to indicate that you should enter a long (buy) position. Similarly, when the price crosses below a moving average, it can be used to indicate that you should enter a short position (sell).
The 50-day moving average is often used by long-term traders to see when a stock is trending. View the average closing price over the last 50 days or 50 periods. The 200-day moving average is the average closing price over the last 200 days.
When you take long- and short-term moving averages like 50 days and 200 days and traverse them on a chart, it often represents a long-term change in momentum. Trend traders will often use them to enter and exit positions.
BEST MOVING AVERAGES FOR DAY TRADING
Moving averages are often cited as the holy grail of technical analysis. They can be used to identify trends, spot reversals, and find support and resistance levels. But did you know that they can also be used to identify daily high-probability trades? If you are a day trader, moving averages can be your best friend or your worst enemy.
While moving averages are great for identifying the trend, they can also get you out of a position just before the next move.
A common question that arises is: “What is the best moving average?” The answer depends on your goals as an investor or trader. The answer also depends on your time frame.
For example, a 20-period SMA will be much more useful on a shorter exchange idea because a shorter moving average responds more quickly to changes in price action. Conversely, a 50- or 200-year moving average may be better suited to the long-term trader.
HOW TO USE MOVING AVERAGES
The moving average is used to help smooth out some of the noise in price changes and give a clearer picture of what’s happening in a stock’s price history.
Moving averages are often used in conjunction with other technical indicators such as MACD or RSI to help confirm trends or trend reversals. The concept is simple: take a regular price chart and smooth it out by creating a series of averages. Then, track that data over the price information.
The most common applications of moving averages identify key support and resistance levels, as well as trends.
Support and resistance levels
Moving averages can also be used to identify support and resistance levels. These two levels are used by traders to determine whether the price of an asset will continue in the direction of the trend or reverse.
This happens when the price of an asset approaches a moving average; it tends to bounce off it. In this way, moving averages act as dynamic levels of support and resistance that can be used by traders to enter or exit positions.
Price movement trends
Traders can use moving averages to help determine where future support and resistance levels might be. But they also use them to identify trends and trend reversals (that is, when a new trend is forming).
Traders also use moving averages in “crossover” strategies, where they will buy if a short-term moving average breaks above a long-term average and sell if it crosses below.
