Moving Average and Relative Strength Index

moving averege

Moving average is a common word heard in the financial markets. There are two kinds of moving averages. One is exponential moving average  and another is simple moving average. Exponential moving average is one kind of moving average different from simple moving average. The specialty of exponential moving average is the faster reaction towards recent price changes. It is also known as exponentially weighted moving average.  Both 12 EMA and 26 EMA are considered as most important short term averages which is used to the indicators like Moving Average Convergence Divergence and Percentage Price Oscillator. Simple moving average is commonly used, because it is easy to calculate. 10 day simple moving average is calculated by adding the closing prices of the last 10 days and divided by 10. Moving average is changed in each day.

If the price breaks below 10 DMA in an uptrend, it is indicating that the trend is weakened. If the prices break above the 10 DMA, it also indicates the decling trend or consolidating. In such situation, watch both 20 DMA and 10 DMA. If 10 day line crosses 20 day line, it indicates a short term trend. For longer term period, both 100 DMA and 200 DMA are used. If the 100 day line crosses below 200 day line, it is called death cross and it gives a bearish outlook. If 100 day line crosses above the 200 day line, it is called golden cross and it indicates bullish sign. Anyway it cannot be considered as an indicator of price direction but an indicator of trend. A short term uptrend can get support at 20 DMA. A long term trend can get support or resistance in the 200 DMA. There will be a slight variation between simple and exponential moving averages. Moving averages are used to understand current trends and trend reversals. It also helps to create support and resistance levels.

Moving average and signals

When a 50 DMA is cross over 200 DMA, a buy signal is occurred and when the 50 DMA crosses below 200DMA a sell signal is occurred.

Relative Strength Index

Relative Strength Index was developed J Welles Wilder. It is used to ascertain whether the market is in overbought or oversold? If the RSI is above 70, it is considered as an overbought situation. If the RSI is below 30, it is considered as oversold situation. It is better to use RSI with moving average cross over. When RSI is in the oversold situation and 10 DMA crosses above 25 DMA it will be a clear buy signal. When RSI is in overbought situation and 10 DMA is crossing below the 25 DMA, it can be considered as a strong sell signal. RSI indicates the weakness and power of a stock. RSI is commonly used in a 14 day timeframe. When the market is in uptrend, RSI will be in between 40 and 70 and if it is in down trend, RSI will be in between 20 and 60.

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