Moving Averages Explained

Moving averages are a common auxiliary tool in any financial analysis.

There are many ways to use moving average lines. Choosing the right method can help to better accurately conduct technical analysis; this will be covered in detail in this article.

What is a moving average line?

First, a moving average (MA) is a calculation of the average movement of the prices in a market, using a curve to represent whether long or short through are more common.

The line above displays a 30-day MA alongside the corresponding candles for that time period. The resulting curve is calculated based on the daily closing price to generate a 30-day MA. This technique doesn’t use other calculation methods and thus is called the simple moving average (SMA).

The 30 days MA is a useful indicator to analyze the markets and judge whether to go long or short when entering a trade.

Nearly all the candles in the blue rectangle in the picture are above the 30-day MA, indicating that as long as the price hasn’t fallen below the 30-day MA, then the buying market is larger than the selling. Thus there is a good probability of entering a profitable trade when buying for as long as the candles stay above the 30-day MA.

As can be seen from the figure above, the candles in the red rectangle fall below the 30-day MA. It can thus be considered that the market sells more than it buys, so this might be a suitable opportunity for shorting.

Time parameter settings for moving averages

Many time periods are used when calculating MAs, with some using 5 days, and others using 10, 20, 120 or 200 day periods as their benchmark.

How should the time period for moving averages be determined?

According to market observations conducted over the years on the stock, forex and even cryptocurrency markets, it is primordial to establish a calculation method for the MA for traders to use as a reference. This can help in the determination of support and resistance areas as well as whether to go long or short.

This method is derived from the Fibonacci sequence, with it’s usage of the golden ratio, named after the mathematician Leonardo Fibonacci. Rabbit breeding is used as an example, so the sequence is also called the “rabbit sequence,” referring to the sequence: {1, 1, 2, 3, 5, 8, 13, 21, 34….}. Mathematically, the Fibonacci numbers are found recursively as follows: F(1)=1, F(2)=1, F(n)=F(n-1)+F(n-2)(n≧3, n∈N*). The Fibonacci sequence has direct applications in the field of modern physics, quasi-crystal structures, and chemistry. It can also be applied to the study of finance to find price trends and make probability analysis.

We can make approximate estimates for time period parameters by using the above:

0+1=1

1+1=2

1+2=3

2+3=5

3+5=8

5+8=13

8+13=21

13+21=34

21+34=55

34+55=89

55+89=144

89+144=233

144+233=377…And so forth

Different kinds of moving averages

Moving averages are divided into several different kinds according to their applications, with properties stemming from the different methods of calculation.

The following are examples of moving averages:

Simple moving average (SMA)

Exponential moving average (EMA)

Weighted moving average (WMA)

Usage suggestions for moving averages

According to current statistics, most world-leading technical analysis traders use exponential moving averages (EMAs). EMAs not only effectively reflect support and resistance, but also further minimize errors inherent to simple moving averages (SMAs) and weighted moving averages (WMAs).

A set of personal MA strategies will be discussed in this article. These strategies only represent the experiences of the author. High efficiency is attained through testing and practice. The financial market contains great risks, please carefully evaluate risks before entering a trade.

An overview of the moving averages strategic usage

The first indicator used is the 13-day EMA. If the price rises above the MA, do not short but go long instead. Conversely, if it falls below the line, then go ahead and go short.

On the 55-day EMA, the MA is a mid-term continuation. If the price is in the middle of a reversal, then it’s necessary to pay attention and see if it will break out. If it doesn’t break out, then the reversal will continue.

The red line above is EMA 13, the purple line is EMA 55, the blue line is EMA 233, and the black line is EMA 843.

In the picture above, black arrows represent the trendline. At the beginning, the price first crosses EMA 13 and then EMA 55. Not only did it break out, but the rebound continues upward. This will continue to be bullish, with EMA 843 in the future profit target.

Conclusion

The moving average is an additional tool to use to determine whether to open long or short positions in the market. Various indicators can be used into the market to make observations, analyze, and find the most suitable method. 

* This content does not represent the views of Bybit. As such, it should be not be seen as trading and financial advice, it is merely an opinion. Trading is done at your own risk.