Application of SMA lines in trading: From basic concepts to practical strategies

Moving Averages Are Essential Tools in Technical Analysis

When conducting technical analysis, no indicator is more classic than the moving average. Whether you are a seasoned trader or a beginner, understanding price trends is indispensable. The Simple Moving Average (SMA), as the most intuitive and easy-to-understand tool, has become the first choice for many newcomers.

In-Depth Understanding of the Principles Behind the Simple Moving Average

Simple Moving Average (SMA) calculation logic is straightforward: sum all closing prices within a certain period, then divide by that period number to get a data point. Connecting multiple data points forms the trend line we see.

For example, using a 15-day stock price:

• Week 1 (5 days): 30, 35, 38, 29, 31
• Week 2 (5 days): 28, 33, 35, 34, 32
• Week 3 (5 days): 33, 29, 31, 36, 34

Calculating the 10-day SMA:

• First point = (30+35+38+29+31+28+33+35+34+32) ÷ 10 = 32.6
• Second point = (35+38+29+31+28+33+35+34+32+33) ÷ 10 = 32.9
• Next point = (38+29+31+28+33+35+34+32+33+29) ÷ 10 = 32.2

Similarly, the 50-day or 200-day SMA is calculated in the same way, just with longer periods and more data accumulation.

Using SMA to Read Market Direction

The core advantage is that SMA can filter out short-term fluctuations, allowing traders to clearly see the true direction of an asset’s price. When the SMA is trending upward, it indicates an uptrend; when it trends downward, it suggests a downtrend.

Different periods of SMA serve different purposes:

• 200-day SMA reflects long-term trends
• 50-day SMA is used to observe medium-term movements
• 10-day or 20-day SMA are suitable for capturing short-term opportunities

It’s important to note that SMA is based on historical prices; it only shows what has happened in the past and cannot predict future movements. This means that signals are often lagging, as the market may have already moved by the time the indicator reacts. In ranging or choppy markets, prices frequently cross the moving average, which can generate many false “buy/sell” signals and interfere with judgment.

Two Classic SMA Trading Methods

Method 1: Following Price and Moving Average Crossovers

Observing the interaction between candlesticks and the SMA is the most basic trading signal. When the candlestick crosses above the SMA, it often indicates an upcoming upward trend, serving as a buy signal. Conversely, when the candlestick crosses below the SMA, it often signals the start of a downtrend, viewed as a sell signal.

Method 2: Using SMA Crossovers to Build Trading Strategies

This method involves plotting two SMAs of different periods on the chart. For example, setting a 20-day and a 50-day SMA. When the short-term SMA crosses above the long-term SMA, it generates a buy signal, known as a “Golden Cross,” indicating bullish market sentiment. When the short-term SMA crosses below the long-term SMA, it produces a sell signal, called a “Death Cross,” suggesting the price may enter a downward channel.

Configuring SMA on Trading Platforms

The steps to set up SMA lines are generally consistent across most charting software:

1. Enter the technical indicators menu
2. Search for and select the Moving Average indicator
3. Right-click on the indicator line to access settings
4. Input the desired period (e.g., 20, 50, 200)
5. Choose appropriate colors for distinction
6. Optionally, add multiple SMAs of different periods for comparison

Enhancing SMA Effectiveness in Practice

Although SMA is widely used in technical analysis, a single indicator has its limitations. To improve trading success, it is recommended to combine SMA with other indicators like RSI, MACD, etc. Using multiple data dimensions for verification can more effectively filter out false signals and enhance decision reliability.