Moving averages
The Moving Average (MA) indicator is the most frequently used indicator in technical analysis. One of the oldest technical indicators in existence. The moving average line will be plotted directly in the price movement chart. The moving average is calculated with a certain predefined period. The shorter the period is, the higher the probability of false signals is. The longer the period is, the weaker the sensibility of the moving average is.
Moving averages is one of the most useful indicators and tag them right up there with RSI and Stochastics. A basic definition of a moving average is that it is the average price of a market at a specific point in time. A moving average shows a trend. The purpose of the moving average is to show the trend in a smoothed fashion.
The moving average is one of the most versatile and widely used of all technical indicators. Because of its method of construction and its susceptibility to quantification and testing, it is the basis for most "mechanical" and "discretionary" trading systems in use today.
As its name implies, a moving average is an average of a changing body of data. A 10-day moving average, for instance, is obtained by adding closing prices for the last ten periodsbeing measured (ie. days) and dividing by 10. The term "moving" is used because only the last 10 days are used in the calculation. Therefore, the body of data to be averaged moves forward with each new trading day.
In essence the moving average is a smoothing device. By averaging the price data, high and low prices are obscured and the basic underlying trend of the market is more easily discerned. By its very nature, however, the moving average line lags the market action. A shorter period moving average, such as a 3 or 5 day, would hug the price action more closely than, say, a forty day moving average. Shorter term moving averages are more sensitive to day-to-day movements.
In general, a Moving Average is an indicator that shows the average value of a security's price over a period of time. When calculating a moving average, a mathematical analysis of the security's average value over a predetermined time period is made. As the security's price changes, its average price moves up or down.
There are five popular types of moving averages: simple (also referred to as arithmetic), exponential, triangular, variable, and weighted. Moving averages can be calculated on any data series including a security's open, high, low, close, volume, or another indicator. A moving average of another moving average is also common.
The only significant difference between the various types of moving averages is the weight assigned to the most recent data. Simple moving averages apply equal weight to the prices. Exponential and weighted averages apply more weight to recent prices. Triangular averages apply more weight to prices in the middle of the time period. And variable moving averages change the weighting based on the volatility of prices.
The most popular method of interpreting a moving average is to compare the relationship between a moving average of the security's price with the security's price itself. A buy signal is generated when the security's price rises above its moving average and a sell signal is generated when the security's price falls below its moving average.
Indicators which are especially well-suited for use with moving average penetration systems include the MACD, Price ROC, Momentum, and Stochastics.
Some indicators, such as short-term Stochastics, fluctuate so erratically that it is difficult to tell what their trend really is. By erasing the indicator and then plotting a moving average of the indica-tor, you can see the general trend of the indicator rather than its day-to-day fluctuations.
