The Power of Exponential Moving Averages in Trading Cryptocurrency

2022-10-27, 09:32

[TL; DR]

🔹 The aim of EMA is to calculate the dominant price trend of a security.

🔹 Traders can use EMA as dynamic support and resistance levels.

🔹 Most trading platforms including Gate.io have the EMA indicator.

🔹 Traders can use EMA crossovers and divergence to identify trade entry and exit points.

Introduction

Many trading technical indicators use the concept of moving averages. Basically, there are two types of moving averages. Although the simple moving average is the simpler one to calculate, the exponential moving average is the most dominant one. In this article we explore the exponential moving average (EMA). We also provide details on how traders can use it to have an edge when trading.

What is the exponential moving average?

EMA has been derived from the simple moving average. In simple terms, the simple moving average involves calculating an average from a set of data generated within a specific period such as a month. It is different from basic average in that when new data is generated the earlier figures are dropped from the calculation. This is because SMA is calculated from a predetermined number of figures, say 14.
For example, if the closing prices of a specific cryptocurrency for four days are $30; $25; 30 and $35, the simple moving average is $30.
EMA is similar to the simple moving average except that the latest figures in the set have more weights than the earlier ones. That is the reason it is also called the weighted exponential moving average (WEMA).

The purpose of EMA is to calculate the dominant price trend of the asset as well as indicating dynamic support and resistance levels. In addition, EMA reduces the impact of “price noise” by lessening the time lag of the data.

How to calculate EMA

Already, we have illustrated how to calculate SMA. Now, let’s outline how we can calculate EMA using three key steps.

The first step is to calculate the SMA of the period by adding the values and dividing by the number of periods.

The second step is to calculate the multiplier using the formula:

[Multiplier = (2 / (Time Periods + 1))]
The final step is to calculate the EMA using the closing price, the value of the previous day and the multiplier. This last step involves the formula:

EMA = (Close – EMA (previous day)) x multiplier + EMA (previous day)

When trading it is not a requirement to manually calculate EMA since the trading platform does that for you.

How to use EMA
With EMA you can use various strategies to spot trade entry and exit points of an asset. For example, the trader can use moving average crosses as well as dynamic support and resistance levels.

Dynamic support and resistance
Many traders use certain EMA periods as support and resistance levels. Depending on the trading periods the trader is using, the main periods to use as support and resistance levels are the 20, 50, 100 and 200. Notably, when using price action, these become key points to base your trading decisions on.

Moving averages crossovers
The points where two or more moving averages cross each other can generate buy or sell signals as they confirm changes in the asset’s price movements. Generally, changes in the asset’s price are responsible for the upwards or downwards movement of the lines. The following chart shows a moving average crossover.

EMA crossover- Learnpriceaction

In this instance, the 21 day EMA is the slower one while the 8 day one is the faster moving EMA. When the faster moving EMA crosses over the slower moving one it means that the price of the asset will rise. When the gap between the two widens, it is an indication that the upward price momentum is increasing. There are different types of crossovers such as double EMA crossover and Triple EMA Crossover.

Triple EMA crossover
The above example shows a double EMA crossover. However, we can also have a triple EMA crossover where we use three EMA lines of varying periods. For example, a trader can use the10-day, 21-day and 50-day EMA periods. The 10-day EMA is the faster moving one while the 50-day one is the slower EMA. On the other hand, the 21 day EMA acts as a control.

Here is an example.

Triple EMA crossover- Learnpriceaction

As we observe, the 10 EMA crosses below the 21 EMA, indicating an emerging trend. In this case, we expect a price fall. As we further observe, from that point on, the price continued to fall.

It is also worth noting that a trader can use different combinations of EMA periods. For instance, one can use 8-day, 13-day, and 21-day EMA periods, as indicated in the chart below.

Triple EMA- Learnpriceaction

The golden cross
The golden cross and the death cross are popular among crypto traders. There is a golden cross when a faster moving EMA crosses above a slower moving one. For instance a golden cross occurs when the 50-day EMA crosses over the 200-day EMA.

The golden cross is a bullish signal, meaning that if there is confirmation a trader can enter a position.

The Death Cross

The death cross occurs when a fast moving EMA crosses below a slower moving one. A particular example is when the 50 day EMA crosses below the 200-day EMA. This is a bearish signal, meaning that if there is confirmation through price action or other indicators a trader can close a position.

EMA can indicate the level of volatility in the market

There are times that EMA can indicate the level of volatility in the market. For instance, if the price of a cryptocurrency is at the same level as the EMA it means that the price of the asset is fairly stable.

How to use EMA at Gate.io

A trader can easily use EMA at Gate.io. All you have to do is to click EMA on the bottom of the trading chart as indicated below.

Once you do that the EMA indicator will appear on all your charts.

Conclusion

EMA is one of the most popular technical analysis indicators because it adapts quickly to changes in prices. However, it is essential to note that it is a lagging indicator. Most traders use EMA crossovers and divergences to make trading decisions.

Author: Mashell C., Gate.io Researcher
This article represents only the views of the researcher and does not constitute any investment suggestions.
Gate.io reserves all rights to this article. Reposting of the article will be permitted provided Gate.io is referenced. In all cases, legal action will be taken due to copyright infringement.