Moving Averages

Moving Average (MA) show us trends in the current price direction by calculating the average of the previous prices from history.  The slope of the MA can tell us direction of the price movement, the history of the price movement and the strength.  A MA that looks flat tells us also that the price going sideways even if the candles are all over the place.

Each candle has 4 prices, see Candles, that can be included in the MA calculation.   Some want to calcualte the MA using the Open Price, some the ( High+ Low )  / 2 and some use ( High + Low + Close + Close ) / 4.   Why use High + Low + Close + Close ? Because it weights the price of the Close, give is more importance, and filters out some the High and the Low noise.   A temporary spike in the price will have less impact on HLCC/4 than it will HL/2.

The next configuration of the Moving Average is the number of Periods in the calculation.   A MA of 12 periods is quite common on a Forex change to get a feel for the direction of the price movement.   The price at each point graphed is the last 12 prices averaged together.   As the newest price changes it is buffered by the 11 prices before it.   If we compare it to a MA of 50 periods then the newest price is buffered by the previous 49.   The changes in direction will be slower for the 50 periods than for the 12 periods.

It is a very important concept to understand that the more periods in the calcuation the slower and smoother the lines will be.  The smaller number of periods will have a much quicker reaction to the price changes.   Note the following graph below.   You can see the price changes by looking at he candles directly but you can also look at the moving averages and see the slope confirming the price movements.

In this case the green line that is hugging next to the price candles is a 5 period MA.   The fatter red line that is nearly flat through all the prices is a 100 period MA.   As the MA move across each other you get a signal in the change of direction in the prices.  This is known as The Creek crossing The River.


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