The moving average (MA) is a type of technical analysis that filters out price data by creating an updated average price. The average is measured on a certain period, like one year, 20 days, or one week. It depends on the choice of a trader.
Moving average strategies are also popular among traders as they are helpful for both short-term and long-term traders.
What Moving Averages tell us?
A moving average helps in filtering market noises. By looking at the moving average direction, a trader can determine the movement of the price. If the MA is upwards, the price is moving up, and if the MA is downwards, the price is moving down. Also, if the MA is moving sideways, then the price is ranging.
One of the main advantages of moving averages is that they can act as support and resistance levels. A 10-day, 100-day, or 200-day moving average may act as a support level during an uptrend, which shows the price may bounce up. Conversely, during a downtrend, a moving average can act as resistance and signify price declining.
Typical moving average lengths are 10, 20, 50, 100, and 200. These lengths can be applied to any timeframe.
Types of Moving Averages
There are two main types of moving averages:
- Simple Moving Averages (SMA)
- Exponential Moving Averages (EMA)
The SMA is calculated by adding recent closing prices and then dividing it by a chosen period. For example, a five-day SMA can be calculated by adding the recent five closing prices and dividing it by 5.
The calculation of the EMA is not as simple as SMA. The EMA applies more weight to recent prices. A 20-day EMA will react quickly to price changes as compared or 20-day SMA due to additional weight on the recent prices.
However, this doesn’t mean EMA is better than SMA. The EMA may work better in certain situations or in certain markets, while the SMA may work better in other conditions. It all depends on the chosen timeframe and traders strategy.
Moving Average crossover strategy
The crossovers are one of the main moving average strategies. Traders can apply many types of crossovers strategies. So, here’s a glimpse of a few of them:
The first type is the price crossover. It emerges when the price crosses above or below the moving average. If the price crosses above, it’s an indication of an uptrend, whereas if the price crosses below, it a downtrend signal.
Another type of crossover strategy is to implement two moving averages at the same time, one shorter and one longer. The period of these moving averages depends on the trader’s choice. When a shorter moving average crosses above the longer MA, it could be an indication of an uptrend. This is also known as the golden cross. On the other hand, when the shorter MA crosses below, the longer one, it can be a downtrend market signal. This is also called the death cross.
Moving Average crossover buy strategy
- The price must cross above the moving average. In the case of two moving averages, a shorter MA must cross above the longer one.
- Wait for the price bar to go bullish before entering.
- Enter the trade after the crossovers.
- Place a stop-loss near the recent low from the entry point.
- Exit the trade on high.
Moving Average crossover sell strategy
- The price must cross below the moving average. In the case of two moving averages, a shorter MA must cross below the longer one.
- Wait for the price bar to go bearish before entering.
- Enter the trade after the crossovers.
- Place a stop-loss near the recent high from the entry point.
- Exit the trade on low.
Moving Average Crossover conclusion
Crossovers are one of the simplest ways to try and determine the overall market trend. Traders can combine other technical analysis forms with the moving average crossovers to enhance their trading strategies.
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