TA: Moving Average Cont'd

为什么叫"MOVING Average"？

Why technical traders call this tool a "moving" average and not just a regular mean?

Example of 10-day SMA:
Sum of 10-days data divided by 10=11 (10-day SMA)

However, as new values become available, the oldest data points must be dropped from the set and new data points must come in to replace them. Thus, the data set is constantly "moving" to account for new data as it becomes available. This method of calculation ensures that only the current information is being accounted for.

In the figure above, once the new value of 5 is added to the set, the red box (representing the past 10 data points) moves to the right and the last value of 15 is dropped from the calculation. Because the relatively small value of 5 replaces the high value of 15, you would expect to see the average of the data set decrease, which it does, in this case from 11 to 10.

What Do the Different Days Mean?

The most common time periods used in moving averages are 15, 20, 30, 50, 100 and 200 days. The shorter the time span used to create the average, the more sensitive it will be to price changes. The longer the time span, the less sensitive, or more smoothed out, the average will be.

Main Uses of MA:

1. Identify trend
Moving averages are lagging indicators, which means that they do not predict new trends, but confirm trends once they have been established.

As you can see in figure above, a stock is deemed to be in an uptrend when the price is above a moving average and the average is sloping upward. Conversely, a trader will use a price below a downward sloping average to confirm a downtrend.

2. Measure momentum
In general, short-term momentum can be gauged by looking at moving averages that focus on time periods of 20 days or less. Looking at moving averages that are created with a period of 20 to 100 days is generally regarded as a good measure of medium-term momentum. Finally, any moving average that uses 100 days or more in the calculation can be used as a measure of long-term momentum.

One of the best methods to determine the strength and direction of an asset's momentum is to place three moving averages onto a chart and then pay close attention to how they stack up in relation to one another. The three moving averages that are generally used have varying time frames in an attempt to represent short-term, medium-term and long-term price movements.

In figure above, strong upward momentum is seen when shorter-term averages are located above longer-term averages and the two averages are diverging. Conversely, when the shorter-term averages are located below the longer-term averages, the momentum is in the downward direction.

3. Determine Support Level
Falling price of an asset will often stop and reverse direction at the same level as an important average.

4. Determine Resistance Level
Once the price of an asset falls below an influential level of support, such as the 200-day moving average, it is not uncommon to see the average act as a strong barrier that prevents investors from pushing the price back above that average. Many short sellers will also use these averages as entry points because the price often bounces off the resistance and continues its move lower.

5. Set stop-loss order
As you can see in figure below, traders who hold a long position in a stock and set their stop-loss orders below influential averages can save themselves a lot of money.

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ps: Content and pictures in this article are excerpted from Investopedia.