Moving Average Trading Guide: From Basic Knowledge to Practical Application

Moving averages are the cornerstone of technical analysis, but many traders’ understanding of them remains superficial. This article will delve into the essence, classification, calculation methods of moving averages, and how to flexibly apply them in actual trading to help you build a more comprehensive trading system.

Understanding the Core Concept of Moving Averages

Moving Average (MA), also known as “均線” (Junxian), is the arithmetic average of closing prices over a certain period.

The most basic calculation formula is: N-day Moving Average = Sum of closing prices over N days ÷ N

Over time, each new period produces a new average value. Connecting these averages with a curve forms the moving average chart you see. For example, a 5-day moving average is the sum of the past five days’ closing prices divided by 5.

The beauty of moving averages lies in their ability to help traders grasp the short-term, medium-term, and long-term price movement directions. By analyzing the arrangement patterns of different moving averages, investors can determine whether the market is in a bullish or bearish pattern, thereby identifying relatively optimal entry and exit points.

It is important to note that while moving averages are fundamental to technical analysis, over-reliance on a single indicator can lead to pitfalls. They should be combined with other technical tools for comprehensive judgment.

The Three Main Classification Methods of Moving Averages

Based on calculation methods, moving averages are divided into three main types:

Simple Moving Average (SMA) uses the most common arithmetic mean method, treating all prices equally.

Weighted Moving Average (WMA) and Exponential Moving Average (EMA) assign different weights to prices over various periods based on the SMA foundation. Their core characteristic is: the closer the period is to the present, the greater the weight assigned to that period’s price, making its influence on the average more significant.

Compared to SMA, WMA and EMA are more responsive to recent price changes, allowing quicker capture of market dynamics. EMA, with its exponential weighting, is more sensitive to price fluctuations, making it favored by many short-term traders.

In practice, most trading software presets multiple moving averages for traders to choose from, eliminating the need for manual complex calculations. Traders simply add the relevant indicators on the chart, and the software automatically generates the corresponding moving averages.

How to Choose Moving Average Periods?

Classified by time dimension, moving averages can be divided into short-term, medium-term, and long-term levels, corresponding to different trading cycles.

5-day Moving Average (weekly) represents the average closing price over the past 5 days and is an important reference for very short-term trading. When the 5-day MA rises rapidly and is positioned above the monthly and quarterly MAs, it indicates a bullish trend, and the stock price may strengthen.

10-day Moving Average reflects the trend over the past 10 days, suitable for short-term traders to monitor closely.

20-day Moving Average (monthly) shows the average price level over a month, and both short-term and medium-term investors will focus on this indicator.

60-day Moving Average (quarterly) tracks the past 60 days’ average trend and is a key reference for medium-term trading.

240-day Moving Average (annual) is used to assess long-term trends. When short-term MAs are below the quarterly and annual MAs, it indicates a bearish pattern has been established.

Generally, the 5-day and 10-day MAs are categorized as short-term; the 20-day and 60-day as medium-term; and the 200-day and annual MAs as long-term.

Note that short-term moving averages are more sensitive to recent price changes but less accurate in trend prediction; medium and long-term averages are smoother and more stable, though slightly lagging, but more reliable for long-term trend judgment.

In practical application, traders do not need to stick to integer periods; they can adjust flexibly according to their trading system (e.g., 14 days for two weeks, 182 days for half a year). The key is to find a period combination that best matches their trading logic.

Practical Application of Moving Averages in Trading

Track Price Direction

Traders can use moving averages to determine overall trend. When prices are above the 5-day or 10-day MA, it signals a favorable condition for short-term investments and may be considered for buying. When prices are above the monthly or quarterly MA, medium- and long-term investors may view the asset positively and consider establishing long positions. Conversely, if prices break below the moving averages, it may indicate downside risk.

When short-term MAs are above all medium- and long-term MAs, it forms a “bullish alignment,” suggesting the upward momentum may continue. Conversely, if short-term MAs are below all medium- and long-term MAs, it forms a “bearish alignment,” indicating a potential continuation of the downtrend.

If the closing price is between the short-term and long-term MAs, it usually indicates a consolidation phase, and traders should be cautious to avoid blind operations.

Capture Moving Average Crossover Signals

After confirming the overall trend, the next step is to find optimal entry points. Crossovers of different period MAs often provide clear signals.

Golden Cross refers to the short-term MA crossing above the long-term MA from below, with both lines in the lower position. This typically signals the start of a new upward trend and can be seen as a buy signal.

Death Cross is when the short-term MA crosses below the long-term MA from above. This pattern often marks the establishment of a downtrend and can be used as a sell signal.

For example, on the EUR/USD daily chart, when three different period MAs are added, and the short-term MA crosses above the medium- and long-term MAs sequentially, the price enters an upward channel, and a long position can be established; conversely, if the short-term MA crosses below the medium- and long-term MAs, the price enters a downward phase, and short or close positions should be considered.

Combine with Oscillators

A fundamental flaw of moving averages is their lagging nature—the market may have already moved significantly before the MA reflects the change. To compensate for this, combine MAs with leading indicators (such as RSI and other oscillators).

When oscillators show divergence at key points (price makes new highs but the indicator does not, or price makes new lows but the indicator does not), and simultaneously the moving averages show signs of flattening or slowing, it can be a signal to adjust positions accordingly or to place small counter trades to catch potential reversals.

Set Dynamic Stop-Loss

In the classic Turtle Trading rules, moving averages can be combined with N-day high and low points as stop-loss references, typically using the 10-day or 20-day highs and lows.

For long positions, if the price falls below the 10-day (or 20-day) lowest point and is below that period’s moving average, a stop-loss should be triggered. For short positions, if the price rises above the corresponding period’s highest point and is above the moving average, a stop-loss should be triggered. This method is advantageous because it is entirely based on market data, reducing subjective judgment.

Limitations of Moving Averages

Since moving averages are calculated based on past prices over a certain period and do not reflect the current price directly, they inherently lag behind the market. The longer the period, the more pronounced this lag becomes.

Additionally, past price trends do not necessarily predict future market performance, so moving averages carry certain predictive risks. These intrinsic flaws mean that moving averages are limited in precisely capturing price turning points.

Therefore, a complete trading system requires multiple approaches, including using different period MAs, candlestick patterns, volume, KD indicators, RSI, MACD, and other tools for comprehensive analysis, rather than relying solely on a single indicator.

Remember a trading truth: there is no perfect technical indicator—only an ongoing process of optimization and iteration of your trading system. Moving averages are just one piece of the puzzle; true trading advantage comes from the organic combination of multiple tools and continuous practical testing.