Intraday trading is a very intensive process that demands a high level of alertness and the ability to take lightning fast decisions on the part of the trader. However, to aid his thought process, he makes use of some quantifiable decision support tools that act as a reference point in his overall trading pursuit. Although there are many Technical Analysis tools at the disposal of today’s trader, in this article, we will have a look at the good old moving average and learn how it can be used more effectively for intraday trading.
Although moving average is considered a lagging indicator, a seasoned trader knows how to glean actionable information from this invaluable tool. As it calculates the average price, we get a fair idea or reference point regarding value. In other words, when prices are near the moving average the stock’s price is considered to be fairly valued, while when they are away from the moving average, the stock’s price is considered to be expensive. Hence, it is always better to initiate a buy/short position when prices are near the moving average.
Types of Moving Averages
There are basically four types of moving averages namely simple moving average (SMA), exponential moving average (EMA), smoothed moving average (SSMA) and weighted moving average (WMA). Out of these four types, the SMA is quite lagging in nature as it gives equal weightage to all the data points in its calculation, while the EMA is comparatively faster as it gives more weightage to recent data. On the other hand, although the SSMA cancels out the noise of the SMA, it also shows some lag and is not suited to use in a fast environment like day trading. Last but not the least, the WMA has been designed to be more responsive and hug prices better.
However,we have found that the 20 period exponential moving average (EMA) is the best moving average for intraday trading as it provides a good balance between responsiveness and price tracking. Additionally, we use a 15 min intraday chart for our study.
Buy Setup: When price is above 20 EMA and the average is sloping upwards, it indicates that the stock is in an uptrend. Look for a pullback to the moving average. Buy when the Pullback Bar’s high gets crossed to the upside.
Short Setup: When price is below 20 EMA and the average is sloping downwards, look for a pullback to the moving average. Short when the Pullback Bar’s low gets crossed to the downside.
The main component in this intraday trading strategy is the 20 period EMA slope. When the moving average is sloping upwards, it indicates a strong uptrend and we look for buying opportunities only. Similarly, when the 20 EMA is sloping downwards, it indicates a strong downtrend and we look for only shorting opportunities. Conversely, when the average is flat, it indicates a non-trending market and hence we stay out of that instrument.