Master the SMA moving average strategy to easily identify market trends

Moving averages are core tools in technical analysis, and among them, the Simple Moving Average (SMA) is popular for its intuitive calculation and ease of use, making it the first choice for many traders. The primary function of the SMA is to filter out price noise, helping you clearly see the true market direction.

What is SMA and Why Use It

The principle of the Simple Moving Average (SMA) is straightforward—add up the closing prices of an asset over a specific period, then divide by the number of days in that period to get a data point.

For example, with a 15-day period, suppose the past three weeks’ closing prices are:

• Week 1: 30, 35, 38, 29, 31
• Week 2: 28, 33, 35, 34, 32
• Week 3: 33, 29, 31, 36, 34

Calculating the 10-day SMA, the first point = (30+35+38+29+31+28+33+35+34+32) ÷ 10 = 32.6

When a new day arrives, you remove the data from the earliest day, add the latest day’s data, and recalculate the average. This process gradually forms a trend line.

The beauty of the SMA is that it eliminates short-term fluctuations, allowing you to see the true trend of the price clearly. When this line slopes upward, it indicates an uptrend; when it slopes downward, a downtrend has likely formed.

Different Periods of SMA Represent Different Timeframes

In actual trading, choosing the right period for the moving average is crucial:

• Long-term trend: 200-day SMA to determine the overall direction, suitable for medium to long-term holders
• Mid-term trend: 50-day SMA often used to assess medium-term movements
• Short-term opportunities: 10-day or 20-day SMA to capture short-term volatility

It’s important to note that SMA is a lagging indicator; it is built on past price data and can only reflect trends that have already occurred, not predict future price movements. When you see a signal, the market may have already moved. Especially in choppy markets, prices often cross the moving average frequently, generating many false signals that can mislead traders.

Two Practical Trading Strategies

Strategy 1: Price and SMA Crossovers

Observing the relationship between candlesticks and the moving average is the most basic method. When the price breaks above the average line, it often continues upward, signaling a buying opportunity; conversely, when the price falls below the average, it may indicate a downtrend, signaling a sell.

Strategy 2: Using SMA Crossovers to Generate Trading Signals

This is a more advanced approach—plotting two different period SMAs, such as the 20-day and 50-day. When the short-term SMA crosses above the long-term SMA, it’s called a “Golden Cross,” a clear bullish signal; when the short-term SMA crosses below the long-term SMA, it’s called a “Death Cross,” indicating a potential downtrend.

This crossover strategy helps you better identify market turning points and improve the accuracy of your entries and exits.

Setting Up SMA on Trading Platforms

Most charting software follow similar steps:

1. Click on the technical indicators button
2. Search for and select “Moving Average”
3. Right-click on the line and choose “Settings”
4. Input the period number (e.g., 20, 50, 200)
5. Customize the line color for differentiation
6. Confirm and save the settings

It’s recommended to set multiple SMAs with different periods, using different colors to observe their crossovers more intuitively.

Key Reminders

Although simple moving averages are widely used, no single indicator guarantees perfect results. When using SMA, it’s advisable to combine it with other indicators like RSI, MACD, etc., to filter out false signals and form a comprehensive trading system. This approach can effectively improve your success rate. Remember, indicators are just auxiliary tools; risk management and discipline are the foundation of successful trading.