Traders useÂ moving averagesÂ (MA)Â toÂ pinpoint trade areas and to analyze markets. MAs help traders isolate the trend, or lack of one, and can also signal when a trend may be reversing.Â Two of the most common MA types are the simple and exponential. We will look at the differences between these two MAs, helping traders determine which one to use.

Moving average revealÂ the average price of a tradable over a given time period. Yet there are different ways to calculate averages, and this is why there are different types of moving averages. They are called "moving"Â because as the price movesÂ new data is added into the calculation,Â thus changing the average.

## Simple Moving Average (SMA)

To calculate a 10-day simple moving average,Â add the closing prices of the last 10 days and divide by 10.Â  To calculate a 20-day moving average, addÂ the closing prices over a 20-day period and divide by 20.

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

Old dataÂ isÂ  dropped in favor of new data. AÂ 10-day average is recalculated by adding the new day and dropping the 10th day, and this process continues indefinitely (for additional reading, seeÂ Chart Basics Walkthrough.)

The following chart shows a 100-day SMA applied to a chart of Macys Inc (M). It helps highlight the downtrend on the left and the rally on the right of the chart. At any given time, this SMA line is showing the average price of the last 100 trading sessions/candles.

## Exponential Moving Average (EMA)

The EMA focuses more on most recent prices rather than on a long series of data points, as the simple moving average required.

 To Calculate an EMA

Current EMA= ((Price(current) - previous EMA)) X multiplier) + previous EMA.

The most important factor is the smoothing constant that = 2/(1+N) where N = the number of days.

A 10-day EMA = 2/(1+10) = 0.1818

For example, a 10-period EMA weights the most recent price at 18.18%, with each data point after that being worth less and lessÂ The EMA works by weighting the difference between the current period's price and the previous EMA, and adding the result to the previous EMA. The shorter the period, the more weight applied to the most recent price.

## Differences Between MAs

The SMA and EMA are calculated differently. And it is the calculation which makes the EMA quicker to react to price changes, and SMA to react slower. That is the main difference between the two. One is not necessarily better than another, though.

Sometimes the EMA will react quickly causing a trader to get out of a trade on a market hiccup, while the slower-moving SMA keeps the person in the trade resulting in a bigger profit after the hiccup is finished. At other times, the opposite could happen. The faster moving EMA signals trouble quicker than the SMA, and so the EMAÂ  trader gets out of harm's way quicker, saving them time and money.Â

Each trader must decide which MA is better for their particular strategy. Many shorter-term traders use EMAsÂ because they want to be alerted as soon as price is moving the other way. Longer-term traders tend to rely on SMAs, sinceÂ investors aren't in rush to act and prefer to be less actively engaged in their trades.

Ultimately, it comes down to personal preference. Plot an EMA and SMA of the same length on a chart and see which one helps you make better trading decisions.

The following chart shows a 100-day SMA (blue) and EMA (pink) on a chart of Alphabet Inc. (GOOG). The EMA reacts quicker to price changes and tends to cling closer to the price action. The SMA is slower to react andÂ has a tendency to stay further from the price, giving it more room.

As a general guideline, when the price is above a simple or exponentialÂ MAÂ then the trend is up, and when the price is below a MA the trend is down. For this guideline to be of use, the moving averageÂ should have provided insights into trends and trend changes in the past. Pick a calculation periodâ€”such as 10, 20, 50, 100, 200â€”that highlights the trend, but when price moves through it tends to show a reversal. This applies whether using a simple or exponential MA. Test out various MAs, to see which works best, by altering the inputs on the indicator in your charting platform.

## Trend-Following Indicators

As lagging indicators, moving averages serve well as support and resistance lines. During an uptrend, the price will often pullback to the MA area and then bounce off it, as can be seen a number of times on the chart above.Â

If prices break below aÂ MA in an upward trend,Â  the upward trend may be waning, or at least the market may be consolidating. If prices break above aÂ moving average in a downtrend, the trend may starting to move upÂ or consolidating. In this case, a trader may watch for the price to move through an MA to signal an opportunity or danger.

Other traders aren't as concerned about price moving through a MA, butÂ will instead put two MAs of different length on their chart and then watch for the MAs to cross.

The chart below uses a 50- and 100-day SMA in SPDR S&P 500 (SPY). Sometimes the MA crossovers provided very good signals which would have resulted in large profits, and other times the signals resulted in poor signals. This highlights ones of the weaknesses of moving averages. They work well when price is making large trending moves, but tend to do poorly when the price is moving sideways like it was on the left-hand side of the chart.Â

For longer term periods, watch the 50- and 100-day, or 100- and 200-day moving averages for longer term direction. For example, using the 100- and 200-day moving averages, if the 100-day moving average crosses below the 200-day average, it's called the death cross. A significant down move is already underway. A 100-day moving average that crosses above a 200-day moving average is called the golden cross, and indicates the price has been rising and may continue to do so. Shorter-term traders may watch an 8- and 20-period MA, for example. The combinations are endless.Â

## The Bottom Line

Moving averages are the basis of chart and time series analysis. Simple moving averages and the more complex exponential moving averages help visualize the trend by smoothing out price movements. One type of MA isn't necessarily better than another, but depending on how a trader trades, one may be better for that particular individual. (Learn more in our Technical Analysis Tutorial.)

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