Here is a piece of wisdom from Dr. Phill McDonnell----
http://www.dailyspeculations.com/wordpress/?p=3158
Moving averages--- are you serious?
Evgeny Slutsky and Moving Averages, from Phil McDonnell
September 27, 2008 | 1 Comment
All moving averages have to be based on a backward looking window of time. So a 10 day average is the average of the last 10 days and so on. But the center in time for that average is really about five days ago. To be more precise it is (n+1) / 2 days ago or 5.5 days ago.
So comparing two moving averages of different lengths is really comparing apples and oranges. If we compare a 10 day to a 30 day average, for example, then we are comparing the average of 5.5 days ago to 15.5 days. In other words they are not the same point in time. Mr. Glazier's enlightening 3D representation of moving averages of various lengths shows that the longer windows respond more slowly to ripples in price than do the shorter moving averages because of this lag effect.
Another feature visible in the chart is the apparently cyclical undulations. The problem with that is that it may simply be a manifestation of the Slutzky - Yule effect. Essentially Slutksy-Yule says that any series, when averaged, will show sinusoidal oscillations as a result of the averaging process. This is true even if the original series was composed of random numbers which could not possibly be sinusoidal in nature.
Another common pitfall when using moving averages is to think that all one has to do is to find the magic combination such as a 19, 27 and 79 day triple crossover with a minimum threshold of 1%. The problem with any such system is that there are an infinite number of these combinations. We quickly fall into the data mining trap where we will appear to find something even if it is merely a product of chance.
Dr. McDonnell is the author of Optimal Portfolio Modeling, Wiley, 2008
http://www.dailyspeculations.com/wordpress/?p=3158
Moving averages--- are you serious?
Evgeny Slutsky and Moving Averages, from Phil McDonnell
September 27, 2008 | 1 Comment
All moving averages have to be based on a backward looking window of time. So a 10 day average is the average of the last 10 days and so on. But the center in time for that average is really about five days ago. To be more precise it is (n+1) / 2 days ago or 5.5 days ago.
So comparing two moving averages of different lengths is really comparing apples and oranges. If we compare a 10 day to a 30 day average, for example, then we are comparing the average of 5.5 days ago to 15.5 days. In other words they are not the same point in time. Mr. Glazier's enlightening 3D representation of moving averages of various lengths shows that the longer windows respond more slowly to ripples in price than do the shorter moving averages because of this lag effect.
Another feature visible in the chart is the apparently cyclical undulations. The problem with that is that it may simply be a manifestation of the Slutzky - Yule effect. Essentially Slutksy-Yule says that any series, when averaged, will show sinusoidal oscillations as a result of the averaging process. This is true even if the original series was composed of random numbers which could not possibly be sinusoidal in nature.
Another common pitfall when using moving averages is to think that all one has to do is to find the magic combination such as a 19, 27 and 79 day triple crossover with a minimum threshold of 1%. The problem with any such system is that there are an infinite number of these combinations. We quickly fall into the data mining trap where we will appear to find something even if it is merely a product of chance.
Dr. McDonnell is the author of Optimal Portfolio Modeling, Wiley, 2008
