A Must-Read for Trading Beginners: Master the Three Types of Moving Averages and Practical Tips

When it comes to technical analysis, many people’s first reaction is to think of all kinds of colorful lines. But in fact, the most practical one is often the simplest — Moving Averages.

Why use moving averages? Understand this first

Many beginners think that moving averages are useless, but that’s because they’re using them incorrectly. The core function of a moving average is simple: Help you see the trend direction clearly and find suitable entry and exit points.

Rather than saying that moving averages are predictive tools, it’s better to say they are price “smoothers.” They sum up the closing prices of the past N trading days and divide by N. What’s the benefit of doing this? It can eliminate short-term noise and help you see the true trend.

For example, a 10-day moving average adds up the closing prices of the past 10 trading days and then divides by 10. This average updates daily, and connecting these points forms the line we see.

You need to know: there are actually three types of moving averages

Many people get confused here. The types of moving averages mainly depend on the calculation method.

First: Simple Moving Average (SMA)

This is the most straightforward algorithm — just a pure arithmetic mean. All prices are treated equally, with the same weight. The advantage is that it’s easy to understand; the downside is that it reacts slowly to recent price fluctuations.

Second: Weighted Moving Average (WMA)

This gives “weights” to recent prices, meaning the closer the price is to the present, the more influence it has. It’s more sensitive than SMA, but the calculation is more complex.

Third: Exponential Moving Average (EMA)

This one is the most complex, using exponential weights. The most recent prices have the highest weight, and older prices’ influence decreases exponentially. Many short-term traders prefer it because it is most sensitive to price changes and can detect trend reversals faster.

In simple terms, the latter two are “biased” versions of SMA — they pay more attention to recent movements. This is indeed more useful for capturing short-term opportunities.

Which period to choose? That’s a skill

Moving averages also have considerations based on time span:

5-day line (weekly) → a tool for ultra-short-term traders. When the 5-day line rises steeply and stays above the 20-day and 60-day lines, it’s a classic bullish signal.

10-day line → an important reference for short-term trading. More stable than the 5-day.

20-day line (monthly) → relevant for short to medium-term analysis. Reflects the average trend over a month.

60-day line (quarterly) → a favorite for medium-term traders. Smoother and more predictive.

240-day line (annual) → used to judge long-term trends. When the 5-day line crosses below the quarterly and annual lines, it indicates a bearish trend.

A common misconception to avoid: Moving averages are not predictive lines but lagging lines. They reflect past data and cannot predict the future with 100% certainty. Shorter periods (like 5-day, 10-day) are more sensitive but less accurate in prediction, while longer periods are more stable.

In practice, there is no absolute “golden period.” Some use the 14-day line (roughly two weeks), others the 182-day line (half a year). You need to explore and find the period combination that best fits your trading style.

Four practical tips to use immediately

1. Use MA arrangement to judge overall trend

The simplest method: if the short-term MA is above the long-term MA, it’s called a “bullish alignment,” indicating a bullish trend; the opposite is a “bearish alignment,” indicating a downtrend.

If the short-term and long-term lines are tangled together, it indicates market consolidation, and caution is advised.

2. Golden Cross and Death Cross

When the short-term MA crosses above the long-term MA from below (upward), it’s called a “Golden Cross” — a buy signal. Conversely, crossing downward is a “Death Cross” — a sell signal.

This technique looks simple but is quite effective in practice. The key is not to overuse it in choppy markets, as it can lead to false signals.

3. Combine with other indicators (very important)

The biggest flaw of MAs is lagging. The market has already moved, and the MA reacts afterward. Combining oscillators like RSI, MACD can compensate for this.

For example, if the price hits a new high but RSI doesn’t (divergence), and the MA starts flattening, it might be time to lock in profits or reverse position.

4. Use MAs to set stop-losses

Use the highest/lowest points of the 10-day or 20-day MA as stop-loss levels. For long positions, if the price falls below the 10-day MA and breaks the lowest point within 10 days, stop-loss. For short positions, do the opposite. This reduces subjective judgment and makes trading more mechanical.

Pitfalls to avoid

Finally, some inherent flaws of moving averages:

• Lagging nature: They are based on past data and respond slowly to recent market changes. The 100-day MA is much slower than the 10-day MA.
• Weak predictive power: Past price movements do not guarantee future results.
• Failure in sideways markets: In choppy, trendless markets, MAs can give false signals.

Therefore, never rely solely on MAs. Combine them with candlestick patterns, volume, and other indicators to build a more reliable trading system.

Remember: there is no perfect indicator, only an ever-improving trading system.