What Is the Triple Exponential Moving Average – TEMA?
The triple exponential moving average was designed to smooth price fluctuations, thereby making it easier to identify trends without the lag associated with traditional moving averages (MA). It does this by taking multiple exponential moving averages (EMA) of the original EMA and subtracting out some of the lag.
- The angle of TEMA can be used to indicate the short-term price direction.
- The TEMA formula is complex and actually subtracts out some of the lag.
- When the price is above TEMA it helps confirm a price uptrend.
- When the price is below TEMA it helps confirm a price downtrend.
- When the price crosses down through TEMA that could indicate the price is pulling back or reversing to the downside.
- When the price moves above TEMA, a price rally could be starting.
Formula and Calculation for TEMA
Triple Exponential Moving Average (TEMA)=(3∗EMA1)−(3∗EMA2)+EMA3where:EMA1=Exponential Moving Average (EMA)EMA2=EMAofEMA1EMA3=EMAofEMA2
- Choose a lookback period. This is how many periods will be factored into the first EMA. With a fewer number of periods, like 10, the EMA will track price closely and highlight short-term trends. With a larger lookback period, like 100, the EMA will not track price as closely and will highlight the longer-term trend.
- Calculate the EMA for the lookback period. This is EMA1.
- Calculate the EMA of EMA1, using the same lookback period. For example, if using 15 periods for EMA1, use 15 in this step as well. This is EMA2.
- Calculate the EMA of EMA2, using the same lookback period as before.
- Plug EMA1, EMA2, and EMA3 into the TEMA formula to calculate the triple exponential moving average.
What Does the TEMA Tell You?
The TEMA reacts to price changes quicker than a traditional MA or EMA will. This is because some of the lag has been subtracted out in the calculation.
A TEMA can be used in the same ways as other types of moving averages. Mainly, the direction TEMA is angled indicates the short-term (averaged) price direction. When the line is sloping up, that means the price is moving up. When it is angled down, the price is moving down. There is still a small amount of lag in the indicator, so when price changes quickly the indicator may not change its angle immediately. Also, the larger the lookback period, the slower the TEMA will be in changing its angle when price changes direction.
TEMA and Trend Direction
The location of TEMA relative to the price also provides clues as to the trend direction. Generally, when the price is above the TEMA it helps confirm the price is rising for that lookback period. When the price is below the TEMA, it helps confirm the price is falling for that lookback period. That said, a look back period should be chosen so this actually holds true most of the time. Therefore, it is up to the trader to choose the appropriate lookback period for the asset they are trading if they intend to use the TEMA for helping to identify trends.
If the TEMA can help identify trend direction, then it can also help identify trend changes when the price moves through the triple exponential moving average. If the price is above the average, and then drops below, that could signal the uptrend is reversing, or at least that the price is entering a pullback phase. If the price is below the average, and then moves above it, that signals the price is rallying. Such crossover signals may be used to aid in deciding whether to enter or exit positions.
TEMA for Support and Resistance
The TEMA may also provide support or resistance for the price. For example, when the price is rising overall, on pullbacks it may drop to the TEMA, and then the price may appear to bounce off of it and keep rising. This movement is reliant upon the proper look back period for the asset. If using the TEMA for this purpose, it should have already provided support and resistance in the past. If the indicator didn't provide support or resistance in the past, it probably won't in the future.
Finally, some traders use TEMA, typically with a small look back period, as an alternative to price itself. The single line filters out much of the noise on traditional candlestick or bar charts. A line chart would also work in this regard.
TEMA vs. the Double Exponential Moving Average (DEMA)
Both these indicators are designed to reduce the lag inherent in average-based indicators. The TEMA reduces lag more than the double exponential moving average. The formula for the DEMA is different which means it will provide the trader with slightly different information and signals. It is calculated by multiplying the EMA of price by two and then subtracting an EMA of the original EMA.
Limitations of Using the TEMA
While the TEMA reduces lag, it still inherits some of the traditional problems of other moving averages. Mainly, MAs are primarily useful in trending markets, when the price is making sustained moves in one direction or the other. During choppy times, when the price is seesawing back and forth, the MA or TEMA may provide little insight and will generate false signals since crossovers may not result in a sustained move as long as the price stays rangebound.
Reduce lag may benefit some traders, but not others. Some traders prefer their indicators to lag because they don't want their indicator reacting to every price change. Since the TEMA reacts quicker to price changes it will track the price more closely than a simple moving average (SMA) for example. But that also means that the price may cross the TEMA on a smaller price move than what is required to cross the SMA. Investors typically don't want to actively trade, so they don't want to be shaken out of positions unless there is a significant trend change.
One type of MA is not better than another. Which to use comes down to personal preference and what works best for the strategy someone is using.
Real World Example of TEMA
Here's an example of a triple exponential moving average applied to the SPDR S&P 500 ETF (SPY) chart.
The triple exponential moving average smooths out the price action. The angle of the TEMA helps identify the overall trend direction even during the day-to-day noise of minor price fluctuations.