Moving averages are some of the most versatile analysis tools used by forex traders and other investors. They are good indicators of the price movement of a particular asset. A moving average is a trend indicator.
Being one of the most popular trend indicators, moving averages are easily accessed on the main charting screen of forex trading platforms. Forex traders like investing with the trend in the market. Moving averages are specialized trend indicators hence their popularity with forex traders.
There are several types of moving averages you can use. The most popular and effective are:
Simple Moving Averages
This is the most popular moving average used by traders. As its name suggests, it is a simple technique that provides you with price movement data on the assets you want to trade.
The simple moving average averages the price of a currency pair over a period. For example, a trader can use the simple average of the closing price of an asset over the last 24 hours.
The simple moving average analysis tool will result in a trend line on how the price moved over the given 24 hours. As a trader, you can use the resulting trendline to make your decision on how you will invest in the particular asset.
The simple moving average is known as a lagging indicator. This is because it is based on past prices of the asset. Thus if you use a long period on your simple moving average, your trendline result will react slowly to price movements.
Exponential Moving Average
Due to the lagging response of the simple moving average, the exponential moving average was developed. It is quite similar to the simple moving average. Its main difference is that it uses more recent periods to analyze an asset.
The exponential moving average gives recent periods more weight than past periods. Thus you have a trend that responds quicker to current price movements. Making it easy for a forex trader to make the right trading decision.
The exponential moving average is more tuned to the current happenings in the market. This is opposed to the simple moving average that is focused on historical data.
Multiple Moving Averages
Multiple moving averages are moving averages that combine several simple moving averages. They include a short, medium, and long-term price movement period. The chart will then provide different trendlines for the given periods.
As a trader, you can now see how the price of your asset or currency pair has moved in the past and recently. The separate trendlines offer you more insight on how to make your trading decisions.
The short-term trendline is seen to respond easily to the prevailing price conditions while the long-term trendline lags.
How Traders Use The Moving Average For Profitable Trading
To Identify A Trend
Moving averages make it easy and possible for traders to quickly spot a trend in the market. When the prices are rising an uptrend can be easily identified on the chart. Similarly, when the prices are falling, a downtrend can be easily identified.
Identify Bull And Bear Markets
A moving average is also able to help traders identify when they are moving into bull or bear markets. This happens when different moving averages intersecting in different time frames. This intersection is known as a cross. There are two popular crosses.
The Golden Cross
This is a moving average chart that shows the short-term moving average moving above the long-term moving average. When this happens, it indicates a bull market. Now traders will have to look for opportunities to enter when retracement happens.
The Death Cross
When the short-term moving average crosses below the long-term moving average, you will have a death cross. The death cross indicates to the trader that they are in a bearish market. Thus as a trader, you will seek opportunities to take a long position on your preferred currency pair.
Moving averages are an essential aspect of technical analysis in forex trading. Many traders like to profit from the trend. To identify the trend to profit from, learning how to use moving averages is essential. It is only through them that a forex trader can ride the right trend to profit.