Moving averages
Moving averages are a very popular tool in many traders systems/strategies. There are even systems made completely out of Moving averages, or MA as they are often called. So, it's time for you to learn what they are and how to use them.
What are Moving averages?
Basicly they are what the names say, moving averages. It is a calculated average price of an certain amount of bars. There are plenty of different Moving averages, but the two most commonly used in the forex market are the Simple Moving Average and the Exponential Moving Average.
There are also plenty of different ways to calculate them. They could be calculated based on open prices, close prices, high prices, low prices and a bunch of more. But I suggest start using them based on close prices.
The parameter you should get familiar with is the one called "period". It is the parameter that decides how many bars the MA should be calculated from at the current chart.
Simple moving average
To understand how a Simple MA is calculated, it's best to show an example.
Lets pretend we have a Simple MA, based on closing prices with a period of 4.
The 4 last closing prices before our currently open bar on our EUR/USD chart is the following:
1 bar away closing price: 1.5
2 bar away closing price: 1.4
3 bar away closing price: 1.3
4 bar away closing price: 1.37
Then our SMA4 is calculated like this: SMA4=(1.37+1.3+1.4+1.5)/4= 1.3925
Good for you the chart application does all the job for you!
Exponential moving average
The EMA is a bit different than the SMA. EMA are calculated with more weight on the recent prices than the older. The EMA reduces the lag that could be shown by a SMA at big ups or downs in the market.
If you are interested in the forumula to calculate a EMA with a period of 4 it is:
EMA4=(Closeprice(current)-EMA(previous))*(2/(1+4))-EMA(previuos)
Interesting? Not really, your chart applications calculates it to you. But remember that EMA takes more weight to recent prices that older prices.
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How to use them?
There are thousands of ways to incorporate moving averages to your trading. But there is one thing you should remember. Do not use moving averages alone in your system. You have to incorporate other methods with them, such as Bollinger bands, price action or what ever makes your system profitable.
There are plenty of systems based only on moving averages. They could give you BIG profits in a trendy market, but once the market starts to oscillate your account size DIVES! In our experience we find them best used as trend indicators or moving supports/resistance. |
Example:
That is a Daily chart of EUR/USD with a Simple moving average 100 applied. Look how nice the price bounces of the SMA100!
Look at his hourly chart of EUR/USD with an EMA50 applied:
See how price bouces almost 10 times only in that session?
They work because there are thousands or even millions of trader using them. There are no rules of which MA's works on which charts. You have to experiment and find the ultimate moving average that works on your chart. Do it now! :)
My suggestions are to start out with round numbers like 20,25,50,100,200,250.
Good luck and be amazed!
Go back to Learn forex for intermediate
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