Moving Averages Analysis

There are a million different ways to trade in forex with each school of thought claiming to hold the key to becoming a successful trader. However, moving averages are one indicator that most traders agree are a very useful marker in determining what the market is likely to do.

A moving average is classed as a technical indicator and simply put, provides the average value of a currency pairing over a defined period of time. The amount of time can be adapted depending on the type of trading being executed, with moving averages possible from a matter of minutes up to several months. Two different moving averages are usually calculated – one from a much shorter time frame than the second – and plotting these on a chart can give a good idea about the general direction of the market.

The forex market is well-known for being volatile and can swing rapidly during the course of a day. This see-sawing movement can sometimes disguise or make it difficult to ascertain the overall trend, which is where plotting moving averages can help.

However, as well as identifying the overall trend of the market, the moving averages can be used to help spot a market which is about to break free of an established movement and start going in the opposite direction.

Both of these factors help traders to decide when to enter the market or exit a position, as well as knowing which way to go. Many entry and exit systems used by traders examine moving averages to determine whether the market is starting a new trend or simply following the established pattern.

If the trader is simply trying to determine the direction of the market it is possible to calculate a longer term moving average – 80 days for example – and simply compare this to the opening price to get a feel for the direction. However, a more accurate way is to compare an 80 day moving average with a 2 day moving average as this prevents any blips form obscuring the true position.

There are differing types of moving averages and popular forms of utilization include the simple moving average as well as the exponential moving average. This a much more complex calculation and involves weighting the data depending on the date. Historical data is given less importance than more recent price movements, hence the exponential can provide a different picture to the simple moving average.

Regardless of which type of moving average is used, the data indicates that a trader should sell if the short and medium range averages move from the high to the low point of the longer term moving average used. Inversely, a buying signal is generated when the short and intermediate averages move up from the bottom range of the longer term moving averages being used.

Regardless of what system is adopted, moving averages can form an integral part of forex currency trading but just like any other indicator, they should never be considered in isolation and no matter how knowledgeable the trader, a little luck is also needed.