What are moving averages?

Thursday 24th January 2002

Q: Could you explain to me the 30 + 90 day moving averages and how they can be used?

A: Unfortunately I have never properly studied charting and my explanation might confuse you more than it would explain. In this instance I have pinched somebody else's explanation which will be far more useful. If you want to study more about the subject then take a visit to this website, http://www.stockcharts.com/. Their chart school is easy to navigate and understand.

"Trend-Following Indicator (i.e. 30 or 90 day moving averages. Depending which charting software package you are using you can change the number of days in your moving average) Moving averages smooth out a data series and make it easier to identify the direction of the trend. Because past price data is used to form moving averages, they are considered lagging, or trend following, indicators. Moving averages will not predict a change in trend, but rather follow behind the current trend. Therefore, they are best suited for trend identification and trend following purposes, not for prediction.

When to Use
Because moving averages follow the trend, they work best when a security is trending and are ineffective when a security moves in a trading range. With this in mind, investors and traders should first identify securities that display some trending characteristics before attempting to analyze with moving averages. This process does not have to be a scientific examination. Usually, a simple visual assessment of the price chart can determine if a security exhibits characteristics of trend.

In its simplest form, a security's price can be doing only one of three things: trending up, trending down or trading in a range. An uptrend is established when a security forms a series of higher highs and higher lows. A downtrend is established when a security forms a series of lower lows and lower highs. A trading range is established if a security cannot establish an uptrend or downtrend. If a security is in a trading range, an uptrend is started when the upper boundary of the range is broken and a downtrend begins when the lower boundary is broken."

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