What Are Moving Averages?
Moving averages come from a sum of the data points of securities. Therefore, you calculate these averages for a specific period.
These averages are lagging indicators used by analysts to show the stock price direction. For that reason, they are moving because you recalculate them constantly to use the latest closing prices.
When an average appears smooth on the chart, it reacts slowly to price changes. On the other hand, if it’s wavy, expect a sudden or quick reaction to the price trend.
Since they show the previous price data, you can use these averages to confirm suspicions of a price change.
You can find the average for any period, whether short or long-term.
Types of Moving Averages
You can calculate moving averages in the following ways.
Simple moving average
To get the average per day, divide the sum of the five recent closing prices by five.
Exponential moving average
The exponential moving average or EMA stock price average uses a more weighted approach. When using the EMA, it focuses on the most recent days. For example, where a simple moving average looks at days 1 to 5, EMA takes days 3 to 5.
Hence, it skips the possible price spike that week. You can compare the EMA of two periods to get the moving average convergence.
What Does a Moving Average Indicate?
You can tell the direction of a price trend using the moving average indicator. As such, when the price appears above the moving average on the chart, the price trend is up.
On the other hand, if the price trend seems to be moving down, it shows the price is trending down. An upward trend confirms a bullish crossover, where the short-term moving average rises above the long-term average. When it crosses below, it’s a bearish crossover.
An analyst can also use the moving average to define the support or resistance in the market based on the price trend.