Trading Guide: Gaurav Bissa decodes how moving averages can help you make a buy or sell decision!

Moving averages are one of the simplest and most commonly used technical indicators. Even though their calculations are easy, they provide strong signals. And, if traders combine with price action it can lead to superior results.

They are a type of lagging indicator which means they are sensitive to price and move once the price has seen an action.

Moving averages help to reduce noise to some extent in a way that they normalize abrupt price movements and also take volatility in consideration.

Gaurav Bissa, Vice President at Trustline Securities Ltd decodes how to use moving averages in picking stocks:

There are different ways to calculate moving averages based on which they are categorized differently. The two most popular forms used by traders are simple moving average and exponential moving average.

The simple moving average is a basic indicator that involves summing up the data points of a given period which is then divided by the number of periods.  

For example, 10-Days SMA would be calculated by adding the closing price of the last 10 days (trading sessions) which is then divided by 10.

Traders can thus use this simple moving average on any time period. The most popular ones are 50-Days SMA, 100-Days SMA, and 200-Days SMA.

Exponential Moving Average:

The exponential moving average is another popular tool used by market participants.

This involves giving more weightage to recent data as that can influence price more. It is more sensitive to price as compared to the simple moving average.

Both the averages are available on all free as well as paid charting platforms and a trader doesn’t have to work around the calculation on his/her own.

Moving averages can be used for multiple functions. It can be used to gauge the basic trend of an instrument.

For example, traders perceive price trading above 200-EMA or 200-SMA to be bullish whereas trading below the same average is considered bearish

Moving averages are a great tool for entry points. A rising moving average tends to lend support to price once it falls which can be bought for gains.

Conversely, a falling moving average generally provides resistance to price once it rises which traders can use to create short positions.

Moving averages can also be used to generate buy as well as sell signals. One of the most prominent examples is the golden crossover as well as death crossover.

A crossover simply means one moving average crossing another moving average.

In golden crossover short-term moving average crosses the long-term moving average from below. For example, 50-SMA which was trading below 200-SMA crosses it to the upside which results in a buy signal whereas in death crossover over the long-term moving average crosses the short-term moving average from above.

For example, 200-SMA which was trading higher than 50-SMA crosses it to the downside which generates a sell signal.

Apart from this, traders also use moving averages for trailing their stop loss as well as for adding to their existing positions.

Moving averages when combined with other indicators like RSI or MACD gives superior results and their simplicity allows traders to customize them to suit their trading style.

(Disclaimer: The views/suggestions/advices expressed here in this article is solely by investment experts. Zee Business suggests its readers to consult with their investment advisers before making any financial decision.)