Reviewed by Gotrade Internal Analyst
Price charts can look chaotic, but many traders and investors use moving averages to make sense of that movement. A moving average smooths price data, helping identify direction, momentum, and potential trend changes without reacting to every small fluctuation.
Among the most common types are the simple moving average and the exponential moving average. Understanding how they differ helps traders choose tools that match their time horizon and strategy.
This guide explains what a moving average is, how simple and exponential moving averages work, and when each is typically used.
Understanding Moving Averages
A moving average is a calculated average of an asset’s price over a specific number of periods.
A moving average also shows the average price over time, updating as new prices appear.
By smoothing short term noise, moving averages make it easier to see whether price is generally trending up, down, or sideways.
Moving averages are not predictive. They react to price, which is why they are known as lagging indicators.
Why traders use moving averages
Moving averages are widely used because they:
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Reduce market noise
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Highlight trend direction
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Act as dynamic support or resistance
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Provide consistent reference points
They are especially useful in trending markets where direction matters more than precise timing.
Simple Moving Average Explained
The simple moving average, or SMA, is the most basic type of moving average.
How a simple moving average works
A simple moving average calculates the average of prices over a fixed number of periods.
For example, a 20 day simple moving average adds the last 20 closing prices and divides by 20. Each new day replaces the oldest price in the calculation.
This gives equal weight to all prices in the lookback period.
Characteristics of the simple moving average
Simple moving averages are:
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Smooth and stable
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Slow to react to recent price changes
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Less sensitive to short term volatility
Because of this, SMAs are often used to identify broader trends rather than short term shifts.
Common uses of simple moving averages
Traders and investors often use SMAs to:
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Identify long term trend direction
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Filter trades in the direction of the trend
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Spot major support and resistance areas
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Compare price relative to historical averages
Longer SMAs, such as the 100 or 200 period, are common in long term analysis.
Exponential Moving Average Explained
The exponential moving average, or EMA, is designed to respond faster to recent price changes.
How an exponential moving average works
An exponential moving average applies more weight to recent prices and less weight to older ones.
This weighting allows the EMA to adjust more quickly when price changes direction.
While the formula is more complex than a simple moving average, the result is a line that stays closer to current price.
Characteristics of the exponential moving average
Exponential moving averages are:
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More responsive to recent price action
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Better at capturing short term momentum
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More sensitive to noise during choppy markets
This makes EMAs popular with active traders who need faster signals.
Common uses of exponential moving averages
Traders often use EMAs to:
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Detect early trend changes
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Time entries and exits
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Track short term momentum
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Build crossover strategies
Shorter EMAs, such as the 9 or 20 period, are common in short term trading.
Simple vs Exponential Moving Average: Key Differences
Although both are moving averages, their behavior can differ significantly.
Responsiveness to price
The simple moving average reacts slowly because all prices are weighted equally.
The exponential moving average reacts faster because recent prices carry more influence.
This makes EMAs more responsive but also more prone to false signals.
Noise vs smoothness
SMAs are smoother and filter noise more effectively.
EMAs follow price more closely, which can be helpful in trends but problematic in sideways markets.
Time horizon suitability
Simple moving averages are often preferred by:
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Long term investors
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Position traders
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Those focusing on broader trends
Exponential moving averages are often preferred by:
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Short term traders
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Momentum focused strategies
No “better” moving average
Neither type is superior in all conditions.
The choice depends on:
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Trading style
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Time frame
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Market conditions
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Risk tolerance
Many traders use both together to balance responsiveness and stability.
Limitations of Moving Averages
Moving averages have clear limitations.
Lagging nature
Because moving averages rely on past prices, they always lag current market conditions.
They will never catch exact tops or bottoms.
Whipsaws in ranging markets
In sideways markets, price crosses moving averages frequently, creating false signals.
This is why moving averages work best in trending environments.
Overreliance risk
Using moving averages alone can lead to oversimplified decisions.
They are most effective when combined with context, such as market structure, volume, or risk management rules.
Conclusion
A moving average is a simple but powerful tool for understanding market direction. The simple moving average offers smoother, slower signals, while the exponential moving average reacts faster to recent price changes.
By understanding the differences between simple and exponential moving averages, traders can choose the approach that fits their time horizon and strategy instead of relying on one size fits all indicators.
If you want to explore moving averages on US stocks in real market conditions, you can use the Gotrade app. Charting tools make it easier to visualize trends while managing position size responsibly.
FAQ
What is a moving average in simple terms?
A moving average is an average price that updates over time to smooth price movement.
Which is better, simple or exponential moving average?
Neither is universally better. Simple averages are smoother, while exponential averages respond faster.
Do moving averages predict price direction?
No. They react to price and help interpret trends, not predict future moves.
Can moving averages be used for long term investing?
Yes. Longer period moving averages are commonly used to assess long term trends.
Reference:
Investopedia, Moving Average (MA), 2026.
CFI, Technical Indicators for Trading, 2026.
Disclaimer
Gotrade is the trading name of Gotrade Securities Inc., which is registered with and supervised by the Labuan Financial Services Authority (LFSA). This content is for educational purposes only and does not constitute financial advice. Always do your own research (DYOR) before investing.
