When it comes to trading within the financial markets, it is essential for traders to have an idea of how prices are moving at any one point in time. This helps them make decisions on whether it is better to sell or buy various securities. In most cases, traders use past data to form trends, such as a moving average, that can help them anticipate the general movement of assets. These trends and the fluctuations observed, give traders an idea of what other traders are doing in the face of prevailing market conditions.
The moving average is a popularly used tool when it comes to making buy and sell decisions in the markets. The moving average indicator is relied upon as such because it is used in making decisions. By knowing the moving averages of the underlying instruments you are trading in, as well as the support and resistance points, you can be able to identify the points other traders are waiting for to make their buy and sell decisions. This helps you time your choices as well.
A moving average is an indicator used in technical analysis of trading data that helps even out price changes and eliminate random fluctuations. One of the main points to keep in mind when answering what is a moving average indicator is the fact that this average is a trend following or lagging indicator. This is because it is based on past data. The simple moving average (SMA) and exponential moving average (EMA) are identified as the two most common and basic moving averages used. The SMA gives equal weight to all prices considered while the EMA gives more weight to the most recent prices.
Now let’s look at some of the main benefits of a moving average indicator. First and foremost, a moving average helps traders identify the support and resistance points for the securities under consideration. Here the SMA is highly useful. It is also worth noting that by using the EMA, traders can be able to focus more on recent price movements and therefore disregard old price movements that may have been rendered irrelevant by the passage of time. Moving averages are easy to plot and interpret making them an easy and favorite tool for use by traders.
Dependent upon which time frame chart you are looking at, you may observe moving averages crossing over each other at given times. These are great indicators of changing sentiment within that time frame and can be considered as buy or sell signals. There are two key points to take into consideration however while attempting to utilize crossovers as buy signals or sell signals.
1. This does not work as efficiently in a consolidating and range bound market with little volume as it does in a high volume and well-traded market.
2. Incorrect setting of the moving averages can cause delayed signals and as such a delayed entry or exit on your position, and while it is not entirely subjective, different traders will use different settings in conjunction with other overlays.
A moving average provides traders with a means of identifying when to make their trades. A short term MA such as the 50-day moving average can be used in conjunction with a long term MA such as the 200-day moving average, with the moving average crossover between the two representing a buy or sell signal.