Moving Average Indicators

Last modified 13:26, 5 Nov 2012

Moving Average Group

Moving Average indicators are the sequential plots over time of the average of a set number of previous prices. Usually the close price is averaged, but other data types can be averaged. Moving Average plots are generally superimposed over the price chart, and the relationship between the chart and its indicator is usually quite apparent.

Moving averages are used to emphasize the direction of a trend and to smooth out price and volume fluctuations, also referred to as "noise", that can confuse interpretation.

The plotted line can also be thought of as a curving trendline, it is dependent on previous price history like a traditional trendline, but because it is recalculated as it moves along, it will develop a curve following behind the trend. Like a trendline, the price can sometimes cross the moving average plot, providing trading signals.

The degree to which the curves in the moving average plot will respond to changes in the trend, or changes in the price data, is dependent upon how many previous interval are included in the averaging calculation.

The purpose of the moving average is to track the progress of a price trend. The moving average is a smoothing device. By averaging the data, a smoother line is produced, making it much easier to view the underlying trend. The shorter the time span to be averaged, the more sensitive the moving average will be to price changes. By averaging a longer time span of data, each point the moving average plot will share more data, and the average will be proportionately less affected by each new data set.  The resulting line will appear to be "smoother".

While moving averages work best when the market is in a trending phase, when the market is trading sideways indicators in the Oscillator group are more helpful in detecting changes in prices.

The Variety of Moving Averages

In addition to adjusting the amount of data included in the averaging for each interval, various techniques have been developed over the years to adjust the way in which the averaging is processed.

A simple moving average (Mov Avg - Simple) gives equal weight to all data included in the averaging calculation.

Some traders feel the most recent data should be given greater importance, the averaging calculation can be altered in a number of ways to accomplish this.

Two rather complex methods of increasing the bias toward more recent data involve an alteration of the calculation itself. This approach is employed for the exponential moving averages (Mov Avg - Exponential) and weighted moving averages (Mov Avg - Weighted).

Another problem is a result of the moving average line being too close to the price chart. The resulting "noise" can result in false or premature trading signals being received. The displaced moving average (Mov Avg - Displaced) indicator reduces this noise by moving the plot of the simple moving average a few intervals forward, in front of the price chart.

Multiple Moving Averages

The contrast between moving averages using different numbers of periods can provide valuable trading information.

Most moving averages allow multiple lines, based on different time frames and/or data types, to be displayed simultaneously.

Other indicators, such as Bollinger Bands and MACD, employ moving average calculations together with other types of indicators, to generate their displays.

Using Moving Averages

Moving averages are trend following systems which do not have forecasting capabilities. By nature they lag behind the stock price, they follow in the market's path rather than showing the way.

They are helpful in identifying the underlying trend and as an aid in entering and exiting the market. One of the greatest advantages in using a moving average is that it allows profits to run and losses to be cut short. This system works best when markets are trending.

Moving Average Indicators include:

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