Moving Average Optimization

Traders often discuss optimizing their systems, and with the widespread use of computers it is easy to change variables and back test many times to see if the performance improves. It might well be worth experimenting with different moving average periods for diverse markets when applying one of these systems, but you shouldn’t obsess about it. You won’t be able to pin it down to a perfect number, and you’ll go crazy trying to.

If you are trying to refine the periods for, say, the double crossover method, and back testing or checking the outcomes using historic data, then there’s one thing that researchers advise you to do. That is, you use only part of the historic data you have to refine your system, and then you run the system on another part of the data to test it. That way you avoid tuning the numbers too specifically, and you get a better idea of how the system might work in an actual unknown situation, such as trading live.

Summary

• One of the advantages of using moving averages in your trading system is that they naturally follow the trend, and this is one of the less risky ways of trading. You will stay in the trade while it is progressing, letting your profits run, but the moving average will cut short any trades where the trend has turned.
• One of the disadvantages of using moving averages in your trading system is that they naturally follow the trend, and markets typically don’t trend up to half the time. The moving average is useless in this sort of market.
• If using a system based on moving averages, many technical analysts stick to just two simple averages. While the different weighted averages should be slightly better, there’s not a lot of evidence either way. There are refinements being made all the time, and you may come across the Adaptive Moving Average (AMA), the Variable Moving Average (VHF), and the Variable Index Dynamic Average (VIDYA) in your charting program. Each of these includes the volatility of the price in the calculation, in effect shortening the effective time period in a volatile situation, and lengthening it if the price is calm. By all means experiment with those available to you to see if they can improve your trading.
• In the next module we talk about oscillators, and one oscillator in particular is a development of two exponential moving averages. It’s called the Moving Average Convergence/Divergence (MACD), and it compares the difference between the averages.
• You will also see the moving average process applied to virtually any numbers, including volume and indicators, and we’ll cover those ideas in due course.

At the end of each module there is a quiz. You can take a quiz at any point, but we suggest you view each module before taking the quiz. When you’re ready to start the quiz, click the take quiz ‘Start’ button below -: