Saturday, July 7, 2012

What is the difference between simple moving average and exponential moving average

Both are similar in the sense that both serve the same purpose of trying to smoothen out the volatility of the underlying data to give a sense of the direction and trend of the data.

How they differ is in the weightages given to each value. While simple moving average (Sma) gives equal weight to all values, the exponential moving average gives more weightage to recent events and thus is more sensitive to movements in the underlying data than the sma.

A simple way to put it would be that a 10 period exponential moving average would behave like a 7 or 8 period simple moving average, but will be smoother and is thus better to use. Overall, Ema's have proved to be more useful than Sma's and thus one will find that many technical indicators use EMAs. Like MACD uses only EMAs and no SMAs.

Have a look at the actual calculation of both simple and exponential moving average in another post of mine. Looking at the calculation in excel will improve your understanding of how they are calculated and move. 

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