menu-caret
Known from:
ntv-logo sky-logo comedy-central-logo

What are moving averages?

What are moving averages?
curtisdavis categorie-icon time-icon2 months ago
Answer for: What are moving averages?
Tom Blackstone time-icon2 months ago

In Forex, a moving average (MA) is a line that depicts the average price of a currency pair over a number of previous periods. For example, a 10-day MA is a line where each point is made up of the average price for the past 10 days.

Moving averages show dynamic levels of support and resistance. Prices often struggle to break through moving averages. And once the price does break through, it tends to carry momentum.

Moving average example

In this chart, the red line is the 10-day moving average. The price hit this line several times in September, 2018. But the first few times, this line offered resistance, and the price failed to break through. In late September, this line was finally broken.

A strong rally followed this break as the price moved from 0.96662 to 0.99537. When this rally lost momentum around October 9th, the price returned to the 10-day moving average, which now offered support. The price then attempted to break this support, first in the second week of October and then again in late October and early November. In both cases, the 10-day moving average provided strong support, and the price continued upward.

Types of moving averages

Moving averages can be either simple or exponential.

Simple moving average

The points to a simple moving average (SMA) are calculated by adding the closing prices of the last X periods and dividing them by X, where X is the number of periods specified.

For example, the point corresponding to the 21-hour SMA for USD/CHF at 12:00 noon can be calculated by adding the prices for USD/CHF at 12:00 noon, 11 a.m., 10 a.m., etc. all the way back to 3 p.m. the previous day (21 hours earlier), then dividing them by 21. If this point is recalculated and plotted each hour, it results in the 21-hour SMA.

A simple moving average can be used to gain a broad overview of the direction a currency pair is trending. Because an SMA does not emphasize recent price action, it is slower to respond to changes in trend than an EMA is. For this reason, an SMA is most useful when the trader wants to filter out the “noise” of recent price spikes.

Exponential moving average

The points to an exponential moving average (EMA) are calculated using the following equation: {Current closing price times [2 ÷ (time period + 1)] + [EMA point from the prior day times {1 – [2 ÷ (time period + 1)]}}.

EMAs respond more quickly to current price action than do SMAs. For this reason, they are favored for shorter time periods and for circumstances where a trader wants to catch sudden changes in trend. The moving average in the screenshot near the top of this page is an example of an EMA.

Here are a few ways to trade using moving averages.

    • If the price is below the moving average, wait for it to rise until it hits the MA, then sell
    • If the price is above the MA, wait for it to fall until it hits, then buy
    • Wait for an MA of a shorter time-period to cross the MA of a longer time-period from below. Buy when this happens. Exit when the crossover happens in the other direction

    • Wait for an MA of a shorter time-period to cross the MA of a longer time-period from above. Sell when this happens. Exit when the crossover happens in the other direction

 

Moving averages are lines that represent the average price of a currency pair over the course of a specific time-period. They can be a useful tool to determine the overall trend of a currency’s price. Because of this, they can be useful for finding profitable trading opportunities.

question-icon 1 view-icon 112