Trading securities can be a lucrative investment if you know what to look for and how to use it–one such tool is called a simple moving average (SMA).
NASDAQ alone trades an estimate of over 2 billion shares daily.
If there wasn’t money to be made, no one would trade. So how do you use moving averages to make the most of your opportunities? We’re going to start out by looking at the different types of moving averages.
What is a simple moving average?
There are two types of moving averages–simple and exponential. When you’re looking at the average of a security over a year, for example, that’s simple. When you weigh more recent prices of that security more than those of eleven months ago, that’s exponential.
Now that you know the difference between simple and exponential moving averages, let’s dive into discussing how the simple ones can help you make decisions on what and when to trade.
How much data do you need?
You can look at trends for moving averages for just about any amount of time. Keep in mind though that the more time you use, the more data you have. That makes any inferences drawn from that data more reliable.
What are the pros and cons of a simple moving average?
As with any trading indicator, there are strengths and weaknesses, as well as information you can expect to derive from that data. In this section, we’ll look at the pros and cons of this specific indicator.
If moving averages weren’t useful, we wouldn’t be talking about them. So let’s jump into looking at how some of their strengths can improve your trading.
- They are customizable as far as the time period is concerned.
- They reveal trends.
- They can help you see through erratic price series data.
As great as these moving averages are, it’s important to understand that they’re not the be-all, end-all of trading indicators. Keep in mind the following limitations when using moving averages:
- They are indicators of past data, so they are not necessarily indicative of future behaviors.
As you can see, there are more pros than cons to using these averages, so let’s get to the final part of our guide, which will show you how to use them in trading.
How to Trade Using Moving Averages
There are a number of key insights that moving averages can offer the professional or amateur trader, but it’s important to remember that you don’t need to come up with your own SMA calculations, though if you want to in order to become more familiar with them, you’ll want to follow the SMA formula.
Follow these steps to improve your trading acumen by using SMAs:
- Decide whether or not you will go with the primary trend.
- No matter which trends you go with, look for stocks that break or up or down.
- Apply the appropriate SMAs.
- Wait for the price to do one of the following:
- Successfully test the SMA (if you are going with the primary trend).
- Close above or below two SMAs.
- On the next bar, enter the trade.
You might want to also keep an eye on the economic calendar, to know when is the best time to consider trades.
If you have additional questions about how to trade using SMAs, we recommend learning more about binary trading options.