Moving Averages

Moving Averages

 

Moving average is the most popular tool among the technical indicators. Technical analysts use such indicator to smooth data series and to spot trends easier. When a moving average (red line) is plotted together with a price graph, it denotes either buy or sell signal. If the price (close) crosses above the moving average, it depicts a buy signal. On one hand, if the price (close) crosses below the moving average, it is considered a sell signal.

Moving averages with different periods can also be plotted on the same price graph. This kind of approach is widely used because it is more robust in telling which signals to follow. When a shorter moving average (9-day MA) crosses above the longer moving average (18-day MA), it is a buy signal. Meanwhile, when a longer moving average (18-day MA) crosses below the shorter moving average (9-day MA), it is a sell signal.

The bar chart below is Dow Jones Industrial Average prices from April 4, 2008 to July 23, 2008. A crossover occurred on May 19 when the 9-day MA (blue line) crosses below the 18-day MA (red line), signaling that prices will go down.

 

 

Moving averages are one of the lagging indicators that are better to employ when prices are trending. Therefore, there are instances that such indicator will give false signals to the traders. Thus, it is advisable to utilize two or more technical indicators to produce robust signals and to avoid any whipsaws.

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