We’re Moving Averages Part I

Guess what we’re doing today? We’re moving averages. Today  we’re starting the first of a two part series  how to trade moving averages using price action analysis.     Moving averages action indicator is very popular among traders as it helps them forecast future price moves – Almost like forecasting the weather.  We’re going to find out what moving averages really are, and various ways to use them. But first  things first:

What In The World Is a Moving Average?

Well, a moving average is a technical indicator that calculates the price or exchange rate of a currency pair.  You’re basically striking an average closing price of a currency pair over a fixed number of periods. Let’s take a look at a typical moving average.


This is what a moving average looks like. The slope helps us determine the future direction of prices. It is must be noted that there are different types of moving averages and each of them has their own smoothness level. The  smoother the moving average, the slower its reaction time to the price movement. But if the moving average gets more choppy, its reaction time is much quicker.(I used to think it was the other round..But then What did  I know?). So if you want a smoother moving average, strike your average over a longer time period.

Now there are two types of moving averages that traders use – Simple Moving Average(SMA)and  Exponential Moving Average(SMA). We’ll take a look at both averages individually , and then identify similarities and differences-if there are any. For the sake of simplicity, we’ll use their acronyms, SMA and EMA.

But first let’s start with:

Simple Moving Average

Well,at the risk of repeating myself, simple moving average  is the simplest type of moving average you can use in forex analysis. Simple Moving Average(SMA) is simply the calculated average of price over  specific time periods. Basically you calculate an SMA  by calculating the prices of one period and then divide it by that period. Scratching your hair already? Not to worry,let me break it down for you

Say you plot a 5 period SMA, on a one hour chart,you add up the closing prices of the last 5 hours and then divide that number by 5.

If you plot a 5 period SMA on a 10 minute chart,you add up the closing prices of the last 50 minutes and divide it by 5.


If you  plot a 5 period simple moving average on a 30 minute chart, you  add up the closing prices of the last 150 minutes and then divide it number by 5.

I hope you get the picture. If not you let me know.

Now  let’s see how moving averages put their smoothness level on the price actionsma-smoothlevel

In case you haven’t  noticed three SMA’s  can be seen on th USD/CHF’s  1 hour chart. The longer the SMA period,is the more the price pulls away from the SMA period. That seems to be the case with the 62 SMA  ait is staying  adrift from the price than the 30 and 5 SMA’s.

Now why is that so? This is because the 62 SMA adds all the prices of the last 62 periods and divides the sum by 62. So the longer the period,the slower the reaction time of the SMA to the price movement.However,there is one problem with the SMA that you should be aware of.And that is, it’s vulnerable to price increases. And when that happens, you get false signals.

The next moving average solves the false signals.And the name is:

Exponential Moving Average(EMA)

If you read my last post, Something called Confluence, you’d have come across Exponential Moving Average. It was listed as one of the factors to look for when trading points of confluence.The Exponential Moving Average(EMA) is just  as popular as the SMA. Unfortunately that is where the similarity ends.Unlike the SMA,which deals with future prices,the EMA deals with prices of the here and now. Plus,it has much quicker reaction time to price events than the SMA.  And, like I indicated earlier, the EMA helps solve SMA’s  vulnerability to price hikes. Let’s see how EMA solves this problem.


This EUR/USD shows prices calculated by the SMA over a 5 day period:

Day 1: 1.3172

Day 2: 1.3231

Day 3: 1.3164

Day 4: 1.3186

Day 5: 1.3293

After gathering these figures, you calculate the SMA as such.

(1.3172 + 1.3231 + 1.3164 + 1.3186 + 1.3293) / 5 = 1.3209.ffecy,

So far so good. But supposing a significant market event causes the Euro to dip across board.And it causes the Euro to crash and land at 1.3000.  Let’s see what effect, if any, this crash will have on the 5 period SMA:

Day 1: 1.3172

Day 2: 1.3000

Day 3: 1.3164

Day 4: 1.3186

Day 5: 1.3293

The SMA will now be calculated as such:

Sure,the SMA looks lower.And it gives the impression that the Euro is going down, when in fact, the Day 2 drop was just a drop in the ocean.

This when EMA comes in. Unlike, SMA which only  focuses on 1 and 2,EMA places emphasis on today 3,4,and 5.So that even if the  EUR loses value on day 2, the spike wouldn’t make much of  a dent on the EUR as EMA would only be focusing  on recent price data. In other words, EMA is only concerned about what traders are doing presently as opposed to the future.

Now let’s take look at a 4 hr USD/JPY chart and see how EMA and SMA will look side by side.


See how  the red line(EMA) is closer to the blue line(30 SMA)? This is because EMA is a lot more accurate than SMA. Why?Because EMA places more emphasis  on current happenings.. The moral of the story is when trading with moving averages, deal with what’s happening here and now rather than what happened last month.


If you’ve stumbled in here looking to join the forex trade bandwagon, here is what you need to do . First,  look up Why Forex Trade Is So Popular.  Next, you learn  the fundamentals of forex trading by reading  Forex Trading Basics – Top To Bottom Part I  and Forex Trading Basics – Top to Bottom Part II .Next, you need to learn how to read candlestick patterns. They are the main feature of price action analysis And you need to know what these patterns are telling you. To be able to do that read the following on Fundamentals of Reading Candlestick Patterns, Single Candlestick Patterns,  Dual Candlestick Patterns, and Triple Candlestick Patterns .    Also You Need To Know Ten Of These Candlestick Patterns . And finally If you want to give your trading skills an edge by relying on pure price action trading/analysis,  instead of fancy forex robots and fancy indicators, get started with What is Price Action Trading? 

Looking to get a leg up on price action analysis,?you need to learn How to Identify Support and Resistance Levels.  And if you want to learn how to interpret trading zones, read up on Identifying Dynamic Support and Resistance Levels. Finally you should know  How To Read Candlestick Patterns using Support and Resistance Levels.

However, if you only want to trade once a month and watch your entry rack up huge profits over a stretch  of several weeks, consult  How to Spot High Probability Trades.  And if you  are  still not sure about  price action trading, find out   Why Price Action Trading Still Rocks . Dont let me stop you from reading the other posts as well. But the  suggested posts above are the most important posts to get  you started.




That’s a wrap for”We’re Moving Averages Part I. We’ve identified what moving averages are and two types of moving averages – Simple Moving Average(SMA) and Exponential Moving Average(EMA). Next time we’ll try to complete Part II.

Do you want me to send you the latest posts to your email address inbox?Then  subscribe to my mailing list and I’ll send my blog posts direct to your inbox. It wont cost you a penny. Till then take care.

PDo you want me to send you the latest posts to your email address inbox?Then  subscribe to my mailing list and I’ll send my blog posts direct to your inbox. It wont cost you a penny.S. If you want to know everything there is to know about price action trading  Download for free The Ultimate Guide To Price Action Trading by Rayner Teo .This brilliant ebook will change your life as a trader. It sure did mine. And if you want a place  to put your price action trading strategies into practice(Including Moving Averages Part I), and get a simulated feel of live forex trading conditions   before trading live, open a demo trading account with Easymarkets. And if you believe you are ready to trade live on the forex markets, open a forex trading account with EasyMarkets and a free forex trading ebook





8 thoughts on “We’re Moving Averages Part I

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