How to Trade Cryptos using Moving Averages | Crypto Trading 101

Introduction

So before we start with the intricacies of trading crypto assets and moving averages – let us first understand what is the objective behind this. Trading is essentially a speculative effort to profit off of a price change of any asset. It is called a speculative effort because this is something that involves an aspect of guesswork, analysis and timing the market. On the flip side, investing is a method of making money off an asset by simply betting on its fundamentals.

So What is Crypto Trading?

Thus, crypto trading is also a means by which one tries to profit off of the price change of a crypto asset. Crypto trading is something that has become very popular in recent days because of the fact that the market itself is very volatile, there are wild swings in price and thus greater potential to monetize those swings.

What is a Moving Average?

According to official definitions, the moving average is a simple technical analysis tool that attempts to smoothen out price data on a chart by creating a consistently updated average price at all points of time. The average can be extrapolated from any kind of price data and time frame, be it a daily, weekly monthly chart or on a smaller scale, it could be five, ten or fifteen minutes to even hourly timeframes. It is totally up to the choice of the trader. There are various advantages to using a moving average in your trading, as well as options on what type of moving average to use. Some of the most common applications of moving averages in the world of trading are to identify trend direction and to determine support and resistance levels.

Why use a Moving Average?

A moving average is a technical analysis tool that helps a trader to cut down on the amount of noise in a price chart. A moving average is depicted on a price chart in the form of a line that can be used to identify the trend and also provides a support and resistance levels. If a moving average line is angled up, the price can be said to be in an uptrend while it is angled down, the price can be said to be in a downtrend. This is of course, a gross generalization however there are finer aspects that can one can apply into their systems and strategies to improve their odds at speculating the price.

BTC/USDT | Source: Tradingview

The chart above shows a simple moving average of 50 applied on a daily time frame chart. The green bubbles on the chart indicates a positive breakout of price above the simple moving average while the red bubbles on the chart indicates a negative breakdown of price below the simple moving average. Right after green bubbles, we see the eventual rally in price and after the red bubbles on the chart are almost certainly followed by corrections in asset price.

Read more: How to read Crypto Candlestick Charts

How to Trade Crypto using Moving Averages

One of the simplest ways to use moving averages to trade crypto assets is using a moving average crossover. While a single moving average is a decent indicator of trend, a crossover can be used to provide goo entry and exit points into trades that give a fairly high probability of profits on the trade taken. The crossover technique in the moving average methodology essentially attempts to weed out false triggers in either direction. This in turn helps to skew the odds in the favor of the trader and increase profitability.

So, in the moving average crossover methodology, what one does is essentially use two different moving averages of varying length, which depends on the trader. Then, a crossover of the shorter timeframe moving average breaks out of the longer timeframe moving average, we have a bullish crossover. On the flip side, if we have a crossover of shorter timeframe moving average breaking down below the longer timeframe moving average, we have a bearish crossover. Take a look.

BTC/USDT | Source: Tradingview

So, to explain the methodology better, let us consider the daily price chart above. For this instance, we are using 50 day simple moving average as the shorter timeframe MA and 200 day simple moving average as the longer timeframe MA. Thus, from the explanation above – a break out of the 50 DMA above the 200 DMA would signify a bullish indication while a breakdown of the 50 DMA below the 200 DMA would signify a bearish indication.

On the chart, we have marked the bullish breakouts with a green bubble and the bearish breakdowns with a red bubble on the chart. This moving average strategy can be refined further with the use of various other indicators to further strengthen the directional bias of the trader and enable him or her to take a trade with greater conviction. Other indicators that can be paired with this can be the Relative Strength Index (RSI), Awesome Oscillator (AO) and several others.

What are the Different Kinds of Moving Averages?

Although the moving average considers the average price of a recent number of candles, there are other considerations when calculating the value. Based on the method of calculation, the most effective moving averages are:

1. Simple Moving Average
2. Exponential Moving Average
3. Weighted Moving Average

Let’s look at them in detail:

Simple Moving Average: The simple moving average is a method of calculating the average price of a crypto asset for a predetermined set of price data. The basic moving average shows the average price only, while the simple moving average is a means by which the data is presented on the chart in the form of a line, as depicted above. A simple moving average considers all prices with equal weight so that investors can find the actual average price.

Exponential Moving Average: EMA is another method of doing a moving average, similar to SMA – as they both track a trend’s direction. However, EMA is a slightly more complex calculation to give more weightage to the more recent price changes. Thus, the EMA is expected to provide more accurate price prediction in sudden price fluctuations and reversals. EMA is a perfect for traders who are into trading on the short term, like day trading.

Weighted Moving Average: A weighted moving average is another variation of moving averages – which is similar to an EMA but the calculation is different. WMA essentially multiples each bar’s price by a weighting factor to give more importance to recent data. The sum of the weight will eventually equal to 1 to 100%.

To know more about technical analysis, read: How to do Crypto Technical Analysis

Disadvantages of using Moving Average Trading Strategy

One of the biggest disadvantages of moving averages is that it is a lagging indicator and thus, it tends to show a trend after a trend has already initiated on the charts. This is because moving averages are calculated based on historical price data and there’s not much that is predictive in nature. Thus, trends, supports & resistances and other indications given by moving averages can be slower, sometimes random and also one can observe that the market doesn’t seem to sometimes respect these levels. This happens especially during period in the market when prices are choppy and can’t seem to be able to hold on to a trend.

However, since a trend in something that begins and tends to hold on for some time – one can use this in combination with other indicators to initiate a long or a short position in the market.

Conclusion

Thus despite the fact that moving averages (and most other chart indicators out there) are lagging indicators – moving averages tend to smoothen out the price action on the charts and thus help in identifying the trends in a better way. Another good thing about moving average crossovers is that it is a popular strategy for identifying both entries and exits of a trade. Thus, as mentioned earlier – moving averages being used in tandem with other indicators and analyzing news factors in the market can help traders identify and ride a trend more profitably.

Read more: How to use and draw trend lines in Crypto Trading?

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