Ihab Salloum[ad_1]
A moving average ( MA ) is an indicator that is often used in trading to display the average of the market price over a given period. This indicator is generally good at showing areas of possible support and resistance levels. This indicator is primarily used to determine the direction of the trend and smooth out any noise that is caused by price fluctuations.
An upward trend is confirmed when the price is above the MA and a downward trend is confirmed when the price is below the MA. MA can also be used to determine the change in trend. When the price of the market crosses above the MA, the trend has changed to an uptrend. Also, when the price of the market crosses below the moving average, the trend has changed to a downtrend. The one problem with MA is that they do not predict a price but rather they give the current direction of the market with a lag. So the main function of a MA is to smooth out prices and to give the current direction of the trend. The two most popular types of MA are the simple moving average ( SMA ) and the exponential moving average ( EMA ).
Calculation of a SMA
Most SMAs are formed by the closing price of a market over a specific number of periods. For example a five day moving average is the sum of the last five closing prices divided by five. As new prices are added, the old prices are dropped off, using only the current five prices. Below is an example of a five day SMA.
Market data: 100, 101, 102, 103, 105
SMA: ( 100 + 101 + 102 + 103 + 105 ) / 5 = 102.2
Calculation of a EMA:
The main advantage of an EMA is that it applies more weight to the current prices thus reducing the lag. There are three steps in calculating an EMA. The first step is to calculate the SMA. This step is necessary because the EMA has to have a starting place. The second step is to calculate the week multiplier and the third step is to calculate the exponential moving average. Below is an example of a 10 day EMA.
Market data: 100, 101, 102, 103, 105
Time Period: 10
SMA: ( 100 + 101 + 102 + 103 + 105 ) / 5 = 102.2
Multiplier: ( 2 / ( 10 + 1 ) ) = 0.1818
EMA: ( Close – EMA ( previous day ) x multiplier + EMA ( previous day )
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