Question

what is a moving average?

Answer 1

Moving average is one of the simplest but useful tools in the armoury of a Technical analyst. It has been considered as an important mechanical trading rule by the market participants to understand the price movements as well as for predicting the future price.

Basically, Moving Averages are lagging indicators which always lag behind the price. It smoothens the price series and corrects the major fluctuations in the price series and in that way, it can forecast the prices of stocks as well as the index. Moving Averages have a smoothening content of the price series. There are different types of Moving Averages: Simple Moving average, Exponential Moving average and MACD.

Generally, two systems of moving average have been used in the market: one compares the short term and long term moving averages and the other compares the stock price and respective moving averages. However, comparison of the stock price and respective moving averages are common in the market place. A buy signal is generated when the current price of the stock or index are above its moving average. A sell signal is generated when the current price or index are lower t han its moving average.

*) Simple Moving Average:

Market participants use simple moving average as one of the important technical Indicators in the market. It acts as a bench mark for the technical analyst to interpret market movement as well as to predict the trend. Generally, moving average is calculated by using the closing price data but the calculation can also be done by using the open, high, low price data. The lag length of the moving average is not fixed; it depends upon the market and market practitioners. Moving averages are
calculated as follows:
MA t ,n = 1/n∑j=t-n
t-1Ci
Ci is the closing price at time of t, n indicate the period of the moving average

Example:  a trader wants to calculate the SMA for stock ABC by looking at the high of day over five periods.

For the past five days, the highs of the day were

$25.40, $25.90. $26.50, $26.30 and $27.90.

The SMA, based on the highs, is $26.40 (($25.40+$25.90+$26.50+$26.30+$27.90)/5).

The past five closing price of stock ABC are $25.25, $25.50, $25.00, $24.90 and $26.80.

Therefore, the SMA is $25.49. This calculation can be extended to more periods, such as for 20, 50, 100 and 200 periods.

Hope you understood about moving average how it works and where we can use the simple moving average. If you understood then RATE POSITIVE ?.

Incase of any queries please feel free to ask in comment box. Thank you.