Filtering out the noise to help measure trends
THE use of moving day averages is a very simple idea. By taking an average of the price over a certain period of time, you can concentrate on long-term trends.
The most common time frames used by traders are the 200-day, 100-day, 50-day and 10-day moving averages. “The shorter the time span, the more sensitive it is to price changes,” says O’Sullivan. “If you’re looking for short-term trades, look to use some of the shorter term moving averages.” Conversely, the longer the time span, the less sensitive that it is to sudden changes and moves.
So how should they be used? As with all indicators, moving day averages are not a cast-iron way to predict the direction that will be taken by an asset. However, when used in conjunction with other indicators, it can help to increase the probability of your trade being successful.
“There were two great trades using moving averages that we flagged up on our twitter feed in crude and gold in the last couple of days,” says O’Sullivan. For crude, when it tried to rally back to a trend line it had fallen below last Thursday, it was now facing the resistance of the 50-day and 100-day moving averages, which were both around the $101 level. “Selling here on Thursday with a $1 stop loss would have seen you make over 300 points profit by Monday afternoon,” says O’Sullivan.
The second move was seen in gold as it broke below $1,680 (see chart, right). “At 10am, we picked out the long-term 150-day exponential moving average at £1,660 as a likely target – it was hit by 3pm,” says O’Sullivan. This could have been a good level to close any short positions entered in the morning or even to enter a long trade with a relatively tight stop loss.