Moving Average: What is it and how to use this index

The Moving Average is one of the most important concepts for technical analysis , being one of the main ways to analyze the current scenario of a market. Although it is not a way to accurately predict the prices of an asset, it is a fundamental average to follow the Bollinger Bands and is the basis for the creation of the Convergent and Divergent Moving Average.

The idea of ​​the moving average is to give an overview of the market, with a special focus on helping to filter out all the noise and sharp swings in prices. That is why it is a very important auxiliary tool for analyzing an asset and helps a lot to determine entry and exit points.

Another important function of the moving average is to provide support and resistance points. In markets like Bitcoin, it is easy to find analyzes using the 200 MA (200-day moving average) to try to determine bullish or bearish moments when breaking resistances or supports.

Moving average types

Like different market metrics, the moving average also has different uses of data, with calculations that allow you to study price action in different ways. Know the main types of moving averages and their practical use.

Simple Moving Average (SMA)

The Simple Moving Average, as the name already indicates, is the simplest way to calculate this metric. The idea is to show the average price over a certain period of days, based on the closing price. However, because it is moving, this average is always moving, adding new closes and eliminating old data.
5-day Simple Moving Average applied to the Bitcoin chart with a daily close and a period of just over 1 month.
As you can see in the chart, the moving average tracks price movements (since it is based on this data). But it is worth noting that the simple moving average line has a “smoothing” movement, as it cleans out much of the noise caused by price spikes and bottoms.

Exponential Moving Average (EMA)

The Exponential Moving Average has a similar context to the simple one, but with a more complex calculation to give more emphasis to the most recent prices, with the old values ​​having less importance in the calculation. This emphasis on more recent data makes the measurement more dynamic than the simple one, and can speed up the identification of market trends.
5-day Exponential Moving Average (orange) applied to the BTC/USD chart. Note that the moving average is different from the SMA because of the newer price weights.
Because of these advantages, the exponential moving average has become one of the most popular among market analysts. The exponential moving average is also easier for even novice traders to interpret and can more easily indicate current trends.

The EMA also serves to indicate support and resistance . In these cases, the short-term average (5-20 days) provides a good dimension of short-term support and resistance. The 200-day EMA is a great long-term indicator.

Weighted Moving Average (WMA)

The Ponderous Moving Average also has the objective of giving different weights to different data, being a variation of the exponential moving average, also trying to make the line as close as possible to the trend.

The farther from the end period of the MMP, the less weight a value has. In these cases, one day has the value X, the next day it will be worth X -1, the next day X -2 and so on until it leaves the metric.

The WMA tracks price much more closely than the simple average and provides a more dynamic analysis than the exponential average. This is not to say that it is better than the other two options, just that it may be more suitable for certain traders who prefer “faster” data.

Hull Moving Average (HMA)

Created by Alan Hull, one of the greatest traders in Australia, he created the Hull Moving Average with the aim of creating an analysis with even less noise than the other versions and which would eliminate the risk of a false breakout. This was done by eliminating the routine lag of common averages. HMA manages to deliver these advantages without neglecting data smoothing against price movements.

The calculation of the HMA is based on the weighted moving average, but it is also based on the square root of the period being analyzed. It is also very useful for entry and exit signals as well as being used effectively to mark trends and is particularly popular with day traders and swing traders.

Investment strategies using moving averages

Moving averages present great tools for graphical analysis and for different setups, however, it is not recommended that they be used without other important indicators. Therefore, it is important to understand more than a single indicator before trading.

With that in mind, let’s explore some of the strategies that can be adopted using moving averages on charts.

crossing of means

One of the most common strategies with the moving average is to use two metrics with different defined periods. This generates crossover points that indicate different types of trends.

For example, we take the 50-day average and the 5-day average on Bitcoin, so we have a long-term trend and a short-term trend, respectively. Crossing between these lines is often a solidification of a trend. See the example:

Note that there are two distinct moments in the market, before the crossing between the purple and red line and after that crossing. The first time the two averages crossed, with the short-term trend (5 days) above the long-term trend (50 days), we had a consolidation of appreciation.

On the opposite way, when the 5-day SMA crossed below the 50-day SMA, we consolidated downside.

Of course, this is an “extreme” example just to illustrate how crossover works. But on a smaller scale it is possible to predict such movements without the need for such a large price movement.

entry signal

A clear entry (buy) signal comes when we have a cross between the averages where the short-term average crosses above the long-term average. This usually demonstrates an uptrend and a good time to position yourself positively in the market.

On the hourly chart of the last four days of BTC/USD we see the crossing of both the 50-day and the 5-day SMA. This started a couple of hours bullish movement, which could be entry momentum for swing traders.

Interestingly, note that the 5-day SMA is heading lower, about to meet the long-term average. This demonstrates that the price in the future will be in a correction moment, which takes us directly to an exit signal.

Exit sign

Using the same graph, we can clearly see where a good exit signal would be, that is, to capitulate gains and take profits, waiting for a moment to buy.

Remembering that we are using simple averages to clarify how the analysis of the signals that can be observed through this strategy is done.

Crossover between averages and price

There is also a strategy that uses only the long-term moving average and the asset price as reference points. This simplified form can be a good choice for medium to long term investments.

Note that every time the price was above the moving average, we had a bullish consolidation, when it was below we had a moment of decline. This indicates good entry and exit points.

Remembering that all these strategies must be used together with other analysis tools to ensure a much more accurate view of trends.