Distorted Moving Averages?

Muschu · 5 May 2008

Hi
I am in the very early stages [and I mean very] of learning about charting. Hence I would welcome responses that are not too technical - in the hope that I can understand them.

My understanding is that the MA line on a chart is based on historical SP data.
Does this mean that some sudden circumstances in trading, such as a share split, can cause the MA to be distorted for a period of time? For example
1. The 6 month chart for CSL - was this temporarily distorted due to the share split? Similarly
2. Is there a distortion in the 12m MA chart for TOL – due to the AIO development and again after the Virgin Blue announcement [see a 3m chart].

I was thinking I was on the right track and then checked the FMG chart expecting to see a distortion following their 10:1 share split -- but couldn't see one.

I hope I've made myself clear. If not please be gentle with me....

Thanks

Rick

Timmy · 5 May 2008

Rick - a moving average is the sum of a series of closing prices divided by the number of closing prices in the sum. So, a Simple 5 period MA is going to sum 5 consecutive closing prices then divide by 5 (this is the gist of a MA, there are variations). So, therefore, anything that causes a shift in the closing price will shift the MA. A development such as a share split (your example of CSL in 1), will, theoretically, also shift the MA, and in such a case this shift would be a distortion. Now, this distortion effect will often be negated by your data supplier adjusting the historical data to reflect the recent corporate action (the share split). Thus a share that has undergone a 10:1 split will have all of its past data divided by 10, so the split is, in effect, invisible on the chart - and thus no distortion of the MA will be visible. Hope this explains at least part of your query?

BTW, not all data suppliers will automatically adjust data in this way, or may not do so in a timely manner.

Your second example, where there was no corporate action such as a split, a 'distortion' in the MA is going to reflect sharp price movements due to news and announcements.

There is a good thread started by wayneL that goes through how to understand how indicators (such as the MA) are constructed which may be helpful in your learning about Technical Analysis, found here.

Muschu · 5 May 2008

Timmy said:
Rick - a moving average is the sum of a series of closing prices divided by the number of closing prices in the sum. So, a Simple 5 period MA is going to sum 5 consecutive closing prices then divide by 5 (this is the gist of a MA, there are variations). So, therefore, anything that causes a shift in the closing price will shift the MA. A development such as a share split (your example of CSL in 1), will, theoretically, also shift the MA, and in such a case this shift would be a distortion. Now, this distortion effect will often be negated by your data supplier adjusting the historical data to reflect the recent corporate action (the share split). Thus a share that has undergone a 10:1 split will have all of its past data divided by 10, so the split is, in effect, invisible on the chart - and thus no distortion of the MA will be visible. Hope this explains at least part of your query?

BTW, not all data suppliers will automatically adjust data in this way, or may not do so in a timely manner.

Your second example, where there was no corporate action such as a split, a 'distortion' in the MA is going to reflect sharp price movements due to news and announcements.

There is a good thread started by wayneL that goes through how to understand how indicators (such as the MA) are constructed which may be helpful in your learning about Technical Analysis, found here.

Thanks Timmy. Am I right in assuming the "sum of the series of closing prices divided by the number of closing prices" refers to previous closing prices? If so, and I use the Etrade charts, I gather I can set that period [within limits]?
Also, are you indicating that the CSL data supplier did not adjust the MA to be inclusive of the split whereas the FMG data supplier did so? And that the TOL data supplier did not incorporate the AIO scenario? Finally is it a fair assumption that the Virgin Blue announcement by TOL has also, at least temporarily, distorted the MA?
Sorry if it sounds as though I am repeating myself -- just trying to make sure I understand.
Many thanks for the link.
Rick

Timmy · 5 May 2008

Rick, a 5 period MA (for example) is going to use today's closing price and the closing price for the previous 4 days (so total of 5). Check out this link for an extended discussion of moving averages, it is very helpful.

I am not familiar with Etrade at all, but I feel sure there will be some way for you to set the period of the MA in their charting package/application.

I haven't seen the charts of CSL, FMG, or TOL in Etrade so I couldn't really say, but it sounds like FMG has been adjusted and the others haven't - maybe someone more familiar with those companies and/or the Etrade package could make a more informed comment?

Muschu · 5 May 2008

Timmy said:
Rick, a 5 period MA (for example) is going to use today's closing price and the closing price for the previous 4 days (so total of 5). Check out this link for an extended discussion of moving averages, it is very helpful.

I am not familiar with Etrade at all, but I feel sure there will be some way for you to set the period of the MA in their charting package/application.

I haven't seen the charts of CSL, FMG, or TOL in Etrade so I couldn't really say, but it sounds like FMG has been adjusted and the others haven't - maybe someone more familiar with those companies and/or the Etrade package could make a more informed comment?

Thanks Timmy. I checked the first link you gave me and it is too technical for me at this stage.
For some reason I thought the "standard' MA was at least over a 30 day period. I'll try to sort this out and will check the other link.
You're a great help. Many thanks.
Rick

Muschu · 5 May 2008

Yes Timmy, on Etrade I can set the SMA or the EMA. In the case of the recent TOL decline setting the MA to, at extremes maybe, 5 or 50 makes a huge difference in the relationship between the SP movement and the MA movement. Hence I expect it can negate the distortion.
I have a long way to go in understanding this, but every inch is also 2.6cm....
Thanks mate.

Timmy · 5 May 2008

Muschu said:
I have a long way to go in understanding this, but every inch is also 2.6cm....

I like that Rick. Take your time understanding this stuff, no rush!

Muschu · 9 May 2008

Timmy said:
I like that Rick. Take your time understanding this stuff, no rush!

OK - so is this progress or a misinterpretation?
If I look at a 1 month chart for TOL with an 18 day moving average [from the day after the Virgin announcement] then do we have a chart that is possibly suggesting an uptrend? [Or is this time frame too short?]
An SMA of 50 days gives quite a different chart....

Comments please.

Distorted Moving Averages?

Muschu

Timmy

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