Exponential Moving Average Explained

  • The Exponential Moving Average method is a modification of the Simple Moving Average method.

    The value indicated by SMA is considered to be less able to represent exchange rate movements, especially when there is a change in direction.

    SMA is considered too slow in providing a reference point used to predict the next exchange rate movement.

    The EMA method is designed to reduce the weaknesses of SMA. Thus EMA is expected to be able to provide a representative indication of exchange rate movements.

    The EMA method uses the same principle as SMA. So the interpretation in its use is also the same. The EMA formula gives weight to the observed exchange rate data.

    The EMA value indicates the moving average value of the rate given in accordance with the period. The last exchange rate is given a weight greater than the previous exchange

    Exponential Moving Average (EMA) is a refinement of the SMA method.

    As we know that the weighting of SMA is a cause that causes a delay in the signal of trend changes.

    Giving weight to EMA is the same as in WMA, involving periods. It's just the difference if in the WMA the longer the period we use, the greater the weight of the last value, then on the EMA the opposite happens ie the longer the period we use, the smaller the weighting of the last value we use


    Formula of EMA

    Mathematically, the Exponential Moving Average (EMA) is written in the form

    emae2.png

    current price = closing rate

    previous EMA = previous EMA


    Another formula is

    EMA formula 11.png

    emae3.jpg

    The other form of EMA formula is

    emae4.png

    X1 to X4 and so on = closing rate

    The EMA formula gives a higher weight to the last exchange rate. The farther behind the exchange rate is used, the smaller the weighting value. Weighting value of the EMA formula (1– α)


    Exponential Moving Average

    emae5.jpg

    Moving averages can not only smooth the price chart, but also simplify it for traders to get the opportunity to enter or exit the market in a timely manner, which is very important when trading in a changing market. To increase delay, which is normal for a simple moving average, traders in the currency market often use the exponential moving average (EMA).

    The problem with EMA is that this indicator gives a double signal, for example reacting repeatedly to one price change. The first time - when a new signal is received, second - when the value is removed from the average calculation. This indicator changes when the new price value appears.

    So, different from a simple average, EMA can only react once to price changes, when the price is received. Based on this fact, the exponential average is considered more desirable for use in the Forex trading process. The reason is that this type of average is more concerned with the new data than the old information, and thanks to this, EMA can react to the latest price changes faster while not being too dependent on old changes. Where in it, EMA will be able to produce a better quality price smoothing graph.

    It is recommended to use the exponential average, as the most reliable indicator at the moment, compared to other similar indicators. This indicator shortens the delay based on the fact that the biggest change is given by the latest prices. It should also be considered that the weight given at the last price depends entirely on the length of the EMA period.

    This kind of moving average is defined by adding a part of the actual closing price to the last value. As a result, in a shorter EMA period, greater weight is given at the last price. This will give the curve a chance to show it on the price chart, almost the same as the actual price change in the currency pair.

    Having these things allows the exponential moving average to have relatively better quality than the simple moving average. At the same time, this fact can be regarded as a lack of EMA, because of its rapid reaction, this indicator tends to give rise to perceptions of the wrong signals.

    In the real graph, the difference between the two moving averages is not taken into consideration but can be clearly seen. Many experienced traders say that EMA reflects a more reasonable market price condition because the previous price affects the exponential decline when the price process moves from the current price


    Interpreting EMA

    Like all moving average indicators, they are far more suitable for market trends.

    When the market is in a strong and sustained uptrend, the EMA indicator line will also show an uptrend and vice versa if the trend decreases, the EMA indicator also shows a downward trend

    Alert traders not only pay attention to the direction of the EMA line but also the relationship of the level of change from one candle to another.

    For example, when a strong uptrend price action starts to flatten and turn around, the rate of change in EMA from one candle to the next candle will begin to decrease until the indicator line is level and the rate of change is zero.

    Because of the lagging effect at this point, or even some of the previous bars, the price action should have been reversed.

    Therefore, observing that a consistent decline in the level of change in EMA itself can be used as an indicator which can further counter the dilemma caused by the lagging effect of the moving average.


    General Use of EMA

    EMA is usually used by traders with a combination of other indicators to confirm significant market movements and to measure their validity.

    For traders who trade intraday and fast-moving markets, EMA is more applicable.

    Quite often, traders use EMA to determine trade bias.

    For example, if the EMA on the daily chart shows a strong upward trend, intraday trader strategies may only trade from the long side on the intraday chart.


    Basic Differences between SMA and EMA

    The basic difference between SMA and EMA indicators can be seen from its usefulness. If you want to use the Moving Average indicator on the stock market that is moving quickly, EMA is the best choice. Why can?

    Because EMA is able to capture changes in a trend very fast so that traders will produce even greater profits. But this indicator has the disadvantage that you will have the possibility to get a fake signal during the consolidation time period. This is because EMA is very fast in responding to every stock price, which makes you think there will be a change in the trend that is formed, when in fact it is just a mere price spike.

    While SMA, its having function is the opposite of EMA. If you want a smoother Moving Average indicator that is slower in responding to every move from stock prices, maybe SMA is an option you can use

    This is because SMA is able to work better when seeing a longer time frame and will give an overview of the order of the overall trend. Although it is slow to respond to price action, this can save you from false signals. The disadvantage of high school is that you may delay longer so you will lose momentum to enter at the best price.

    Simple Moving Average or SMA is the simplest Moving Average indicator, according to its name, which is simple. However, do not underestimate the ability of SMA because it sounds simple but if with the right use, SMA can guide you to recognize price movements.

    For example, if you use 50 SMA on the 1-hour chart, the 50 SMA you can see is the sum of the last 50 closing prices. Then, the sum is divided into 50, so that from that calculation you can get the average value of the closing price in the last 50 hours.


    What to Choose SMA or EMA?

    So it can be concluded, EMA is different from the Simple Moving Average. EMA is only able to react once to price changes, especially when the price is received. Based on this fact, EMA is considered more desirable for use in the forex trading process.

    Another reason is that indicators tend to prioritize new data rather than long information so that EMA is able to react to the latest price changes more flexible and does not always depend on old changes, which this indicator will be able to produce finer and better price charts.

    EMA is highly recommended by professional traders as the most reliable indicator now when compared to other similar indicators. EMA can shorten the delay based on facts in the biggest changes given by the final prices. You should also consider that the weight given at the last price depends entirely on the length of the EMA time.

    If you are an aggressive trader so you want to use MA indicators that are able to react faster to price movements, then you must choose EMA because this indicator is the right choice.EMA can help you capture opportunities that are more agile than high school.

    Thus, the profits or profits that you can produce will certainly be even greater, but the disadvantage is that you can be trapped by fake signals given by EMA. Therefore, we recommend careful and careful analysis of prices.

    Well, if you are a more passive person in trading, then high school is the best choice for you. SMA reacts more slowly in price movements than EMA. That way, the opportunities given will also appear longer. This means that the profit generated will be smaller, but the possibility of being trapped by false signals is also smaller.


    Trading With EMA 9 and EMA 18

    This method is called the 'floor trader's method' and is often used in daily trading with a 1-hour time frame or 4 hours. Basically, this method follows the trend following with the concept:

    1. In trending, correction or retracement will always be repeated.

    2. Use exponential moving average (ema) indicators to identify trend direction, and entry based on trend direction. The ema indicator period used is 9 and 18.

    3. Using observations of candlestick reversal formations as signals for entry after a retracement or correction occurs. Reversal candle formations such as bullish or bearish engulfing, or doji.

    emae6.png



    Determine sell entry levels:

    • Wait for the ema 9 indicator curve to crossing ema 18 from top to bottom, which is a signal for a downtrend.

    • Wait for a retracement or correction to occur, which is when the price moves up and touches the ema 9 indicator curve or the indicator both curve.

    • Observe the reversal candle formation and sell entry when the price reverses (pulls back) and breaks the previous lowest level of the bar.

    • The stop loss level is set between 1 and 5 pips above the highest level of the bar during the retracement.

    emae7.png


    Determine the buy entry level:

    • Wait for the ema 9 indicator curve to crossing ema 18 from the bottom to up, which is a signal for an uptrend.

    • Wait for a retracement or correction to occur, which is when the price moves down and touches the ema 9 indicator curve or the indicator both curve.

    • Observe the reversal candle formation, and entry buys when the price reverses (pull back) and breaks the previous highest level of the bar.

    • The stop loss level is set between 1 and 5 pips below the lowest level of the bar during the retracement.


    Determine exit level:

    In this method exit can be determined in various ways, among others, by moving the stop-loss level to the break-even level, using trailing stop, setting the risk/reward ratio of 1: 2 or 1: 3, using the Fibonacci retracement level or expansion, or specified on the closest important support or resistance level.