Tuesday, October 9, 2007

What's An EMA? The Concept Behind The 5 EMAs Forex System

There is a concept in forex trading and in trading in general that is used as an indicator by many forex traders. This widely used concept is that of the moving average. Its used in the field of finance and specially with technical analysis. It belongs to a family of many similar statistical techniques widely used to analyze time series data.

You can calculate a moving average for any time series, but in our case we are mostly concerned about this average calculated over currency pair prices over time. As an averaged quantity, MAs can bee seen as a smoothed representation of the current market activity and an indicator of the trend influencing the market behavior. Thus highlighting longer-term trends or cycles. The limit between short-term and long-term depends on the market you are observing, and the parameters of the moving average should be set accordingly.

There are three main types of moving averages. Simple moving average, Weighted moving average, and the Exponential moving average. They are all moving averages but differ on how time period are weighted for the final value of the indicator.

In the case of the Exponential Moving Average (EMA), which is also called Exponentially Weighted Moving Average (EWMA) sometimes, during the calculation the formula applies weighting factors which decrease exponentially. What this means is that more weight (importance) is given to the latest data.

From this definition we can conclude that an exponential moving average reacts faster to recent price changes than a simple moving average. The 12 and 26 day EMAs are the most popular short-term averages. And in general, the 50- and 200-day EMAs are used as signals of long-term trends.

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