What is the difference between a simple moving average and an exponential moving average?

By Casey Murphy AAA
A:

The only difference between these two types of moving average is the sensitivity each one shows to changes in the data used in its calculation.

More specifically, the exponential moving average (EMA) gives a higher weighting to recent prices than the simple moving average (SMA) does, while the SMA assigns equal weighting to all values. The two averages are similar because they are interpreted in the same manner and are both commonly used by technical traders to smooth out price fluctuations.

The SMA is the most common type of average used by technical analysts and it is calculated by dividing the sum of a set of prices by the total number of prices found in the series. For example, a seven-period moving average can be calculated by adding the following seven prices together and then dividing the result by seven (the result is also known as an arithmetic mean average).

Example
Given the following series of prices:
$10, $11, $12, $16, $17, $19, $20
The SMA calculation would look like this:
$10+$11+$12+$16+$17+$19+$20 = $105
7-period SMA = $105/7 = 15

Since EMAs place a higher weighting on recent data than on older data, they are more reactive to the latest price changes than SMAs are, which makes the results from EMAs more timely and explains why the EMA is the preferred average among many traders. As you can see from the chart below, traders with a short-term perspective may not care about which average is used, since the difference between the two averages is usually a matter of mere cents. On the other hand, traders with a longer-term perspective should give more consideration to the average they use because the values can vary by a few dollars, which is enough of a price difference to ultimately prove influential on realized returns - especially when you are trading a large quantity of stock.

EMAvsSMA.gif

As with all technical indicators, there is no one type of average that a trader can use to guarantee success, but by using trial and error you can undoubtedly improve your comfort level with all types of indicators and, as a result, increase your odds of making wise trading decisions.

To learn more about moving averages, see Basics Of Moving Averages and Basics Of Weighted Moving Averages.

RELATED FAQS

  1. Which market indicators reflect volatility in the stock market?

    Learn the most commonly used technical indicators of stock market volatility that are watched by stock market traders and ...
  2. How do I invest or trade market indicators?

    Read about how investors can trade actual market indicators, such as the S&P 500 Index, rather than specific stocks or commodities.
  3. What are the most common market indicators forex traders follow?

    Learn the most common technical indicators that forex traders and currency market analysts utilize to predict likely market ...
  4. What is a common strategy traders implement when using the Wide-Ranging Days pattern?

    Learn about wide-ranging days and how traders use this single-session candlestick pattern to predict trend reversal and create ...
RELATED TERMS
  1. Fintech

    Fintech is a portmanteau of financial technology that describes ...
  2. Indicator

    Indicators are statistics used to measure current conditions ...
  3. Intraday Momentum Index (IMI)

    A technical indicator that combines aspects of candlestick analysis ...
  4. Forex Spread Betting

    A category of spread betting that involves taking a bet on the ...
  5. Mass Index

    A form of technical analysis that looks at the range between ...
  6. Money Flow Index - MFI

    A momentum indicator that uses a stock’s price and volume to ...

You May Also Like

Related Articles
  1. Mutual Funds & ETFs

    How do I invest or trade market indicators?

  2. Chart Advisor

    Is Now the Time to Invest in North America?

  3. Chart Advisor

    These Oil Service Stocks Are Ready For ...

  4. Trading Strategies

    The Top Five Stocks For Novice Swing ...

  5. Options & Futures

    Advantages Of Trading Futures Over Stocks

Trading Center