Analysis of Moving Averages

Moving average is a basic tool that is used as a foundation for majority indicators in the technical analysis. Even if a trader does not use moving averages directly in his/her analysis most likely they are used as a component of other technical studies in his/her analysis.

 In technical analysis a moving average (MA) is used as a tool to analyze a set of price data points (price bars) by creating a set of averaged price data in order to smooth out short-term price movements and swings and highlight longer-term price trends. The moving average applied to the price does not predict changes in a trend by itself, yet it can describe the current price trend sentiment. Furthermore, if a moving average rises an analyst may say that the current price trend is Bullish. Controversially, if a moving average declines, an analyst may say that the current price trend is Bearish.

There are two types of moving averages: simple moving average (SMA) and exponential moving average (EMA). Simple moving average is calculated as an average close price of price bars over specified period of time. An exponential moving average has weighted coefficient and in some cases it could be called as weighted moving average.

As was mentioned above, a moving average does not predict trend reversal by itself; yet, it could be used in combination with other technical indicators (even with another moving average) to time the price changes. For instance, by taking two moving averages with different period setting and comparing them a trader compares shorter-term trend (expressed by shorter-term moving average) to the longer-term trend (described by longer-term moving average). In some cases shorter-term moving average called as fast MA and longer-term moving average is called as slow MA. As a result of comparison of two moving averages a trader (analysts) may define how shorter-term trend moves in relation to the longer-term trend trend. In particular, whether it confirms the longer-term trend by moving along with it, or a shorter-term MA moves in opposite direction to a longer-term trend by indicating a possible coming change in the longer-term sentiment.

There are other aspects of technical analysis where moving averages are used. The moving averages are considered as a basic and foundation for many technical indicators and because of that they could be named as main and most important tools in the technical analysis. You may see moving averages as a part of a calculation of some indicators, moving averages are applied to other than price data to smooth out them, moving averages are used to smooth already build indicators, they are used to draw signals lines, they are used to filter fake trading signals, etc.

The main purpose of moving average is to smooth data and filter fluctuation that may generate fake trading signal, yet, a trader should remember that moving averages are lagging indicator (trend following) and their application brings lag (delay) into generation of trading signals.

Article Tags: Current Price Trend, Moving Averages, Technical Analysis, Moving Average, Price Data, Current Price, Price Trend, Moving Average), Longer-term Trend

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