One of the most basic but effective methods of determining a stock’s performance is to review it on a price chart. Prices are plotted each day along with volume to create a visual picture of the stock’s movement. But price action is just the beginning of the story for any stock.
A moving average— probably the best known, and most used, technical indicator. Moving Average is an important visual tool used to track price changes using various time lengths like daily, weekly, monthly, or yearly. To calculate a 500-day moving average (50-DMA), simply take the last 50 days’ closing prices for a stock, add them up, and divide by 50. Here is shown a 50-DMA line on TCS’s daily price chart on 14-JULY-2020
Then each day the oldest price is dropped and the newest price added, which changes the average. Each day’s average is then plotted, connecting the dots, to form a line that extends day-to-day. Moving averages assist in determining when to buy and sell.
Investors primarily use the 50-DMA and 200-DMA as a method of timing buys and sell. A major signal to buy or sell occurs when a shorter average crosses a longer one or in other words when 50-DMA crosses 200-DMA. Here on Reliance daily chart, you can see how based on 50-DMA and 200-DMA you can take a call to buy or sell.
Also, these moving averages can work as support and resistance as well. A stock trading above 50-DMA will take support at 50-DMA line and if a stock is trading below 50-DMA, it will resist at 50-DMA line while going up. Support is a historical price level at which falling prices stop falling and either move sideways or reverses direction and Resistance is a historical price level at which rising prices have a hard time breaking through to the upside. Based on these lines many traders take positions and also swing traders do their trading based on this. In a bull market, bar graphs of daily prices are above a 200-day moving average. And in a bearish market, bar graphs of daily prices are below a 200-day moving average.
There is another form of moving average used by investors and traders which is called Exponential Moving Averages (EMA). EMA is a variant of the simple moving average in which more emphasis is placed on the most recent prices than the older ones. The EMA follows the actual price more closely than the SMA. The theory behind exponentially moving averages emphasizes that the most recent data is the most important and old data can be ignored or can be given less importance. But at a principal level, all averages help you to determine price movement in a more smoothed way so that you can create your strategies and do the trades.
Disclaimer: The opinions expressed in the Blog are for general informational and educational purposes only and are not intended to provide specific advice or recommendations for any individual or on any specific security or investment product.
Comments