The Double Exponential Moving Average DEMA is a variant of the classic moving average. Download it for free and discover the pros and cons of its use.
Which is better Simple or Exponential Moving Average? It depends on how you want to use it because it is a choice that must be made according to the chosen strategy system.
The Double Exponential Moving Average DEMA is excellent for its reactivity and should be chosen when the entry or exit timing is a priority.
Moving averages are often considered lagging indicators because they follow price movements late, the Double Exponential Moving Average only solves part of the problem.
Carry on reading; we will show you all the advantages of using the DEMA indicator, you will learn how to build it. You can also download the free indicator for the major trading platforms such as MetaTrader4, TradeStation and MultiCharts for free.
Through practical examples, we will show you the DEMA differences compared to the other most commonly used moving averages. Enjoy the reading!
Which is better Simple or Double Exponential Moving Average?
If you’ve been trading for a few years, you will have used every moving average on your platform by now.
There are many variations you don’t know yet, one of them is the Double Exponential Moving Average DEMA.
The simple moving average SMA is the most used moving average because it is the default one in many platforms, while the Double Exponential Moving Average is often not present.
A simple 20-period moving average is calculated to the closing prices adding the closed prices of the last 20 candles and dividing the result by 20 (MA Period). Simple right?
In this way, however, the price of 20 candles ago has the same importance as today.
Since moving averages are considered being lagging indicators, this calculation makes them even more lagging.
Note: a lagging indicator is an indicator that lags behind prices, while a leading indicator anticipates its movements.
If you are looking to make your Moving Average more leading and less lagging, the use of a Double Exponential Moving Average might be the right choice.
The DEMA is calculated using an exponential average, which gives more weight to the latest prices than the older ones. In this way, it should be more in tune with the market and its continuous evolutions.
Now let’s graphically compare the Simple Moving Average with the Double Exponential Moving Average.
Changes in volatility will affect the Double Exponential Moving Average more than a simple moving average.
Is better for Trend Follower or Mean Reverting strategies?
If you are using the moving average for a trend follower strategy, the best choice is a simple moving average. Here, your goal is to follow the trend for as long as possible and a slower moving average should improve performance.
Instead, if you are building a reversal system and therefore, you are trying to catch trend changes quickly, the Double Exponential Moving Average is the best choice.
The increased responsiveness to DEMA’s price changes will improve the timing of entry and exit.
Double Exponential Moving Average Trailing Stop
If you use the moving average to make a trailing stop, decide which of the two variants to choose based on how narrow you want to set your trailing stop.
We explained to you that a Double Exponential Moving Average reacts faster to price movements because it gives more weight to the last period.
So using the DEMA for a trailing stop, it will close the position much faster than a simple moving average.
Exponential Moving Average VS Double Exponential Moving Average?
To decide which one to choose between an Exponential Moving Average and a Double Exponential Moving Average, it is necessary to deepen the mathematical calculation behind the two indicators.
How is the Double Exponential Moving Average calculated?
In this article, we will not go into the mathematical calculation of an Exponential Moving Average, If you are interested in further study of these aspects, visit this page on Investopedia.
To calculate a DEMA we start from a standard Exponential Moving Average, we choice 20-periods.
Once the Exponential Moving Average at 20 periods is obtained, we can calculate the Double Exponential Moving Average (always at 20 periods) and here it becomes interesting.
In practice, the EMA is taken and we calculate an EMA of the EMA, it’s a smoothed EMA.
If you follow our site, you know that we love transforming each technical indicator into a smoothed indicator because it allows us to decrease the background noise of the market.
Once the smoothed EMA is obtained we will only have to follow this formula:
DEMA = (EMA x 2) – Smoothed EMA
It is clear by analyzing the calculation method that a DEMA is more reactive than an EMA.
Once again, the choice between the two moving averages will be made based on the strategy and instrument used. If more execution timing is needed by accepting some false signals, then you can choose an DEMA.
If instead, you prefer to eliminate the background noise more, then the standard Exponential Moving Average is the correct choice.
Again we compare the two averages graphically to understand that …
How to use a DEMA indicator?
As we have explained to you, the Double Exponential Moving Average can work better than a common moving average to perfect the timing of entry of a trade or predict the change of a trend in advance.
Be mindful that a moving average alone will never give reliable signals and you will hardly be able to use it alone to create a trading system.
It doesn’t matter how it’s calculated; it doesn’t matter if it’s exponential; using a moving average can almost never provide profitable signals for a trading strategy alone.
Even the classic and now outdated Moving Average Crossover system does not produce noticeable results with most financial instruments.
Why did many traders use it in the past? Simple techniques such as the crossing of moving averages worked as long as the markets had strong and well-defined trends.
Keep in mind that a Double Exponential Moving Average, and the other moving averages, is a trend follower indicator. It was created to intercept a trend and follow it for as long as possible.
In the past, trading strategies were mostly of this type, the lack of liquidity on the market and the scarce presence of institutions in many markets allowed long trends to evolve. The absence of algorithms also facilitated this bias.
So the intersection of two Double Exponential Moving Averages could was enough to intercept a trend on stock and ride it for weeks or even months.
Today it is still possible to find these types of trends in some commodities or penny stocks.
If you are a forex trader or operate on big US stocks, you will have realized that it has become challenging to use trend follower strategies on these tools.
So, selecting the correct moving average, it’s a waste of your time? Absolutely not.
Below we will show you two simple, practical uses of the Double Exponential Moving Average with related backtests.
DEMA for trend filter in stock market
In many of our automatic systems, there is an average to filter the trend.
The human eye can easily identify a trend, but if an expert advisor has to do it, he will need the help of a formula.
One of the best indicators to use in an automatic trading system to filter a trend is the moving average.
You may need a Double Exponential Moving Average to filter the trend even if you are a discretionary trader.
For example, if you want to monitor the trend of a higher timeframe, you can insert an indicator that updates the trend in the higher timeframes while remaining concentrated on the intraday chart.
Why is it so important to filter the trend with a moving average?
By using a Double Exponential Moving Average and comparing it with the closing price, you will always be clear and objectively on which side the prices are moving.
In most trading systems, you should not open operations against the major trend; therefore, this filter is essential for your trades.
Using an automatic trading system, you can enter all these conditions, or you can use them in discretion trying to be as disciplined as possible.
Let’s see a practical example of a trend filter with a Double Exponential Moving Average inserted inside an automated trading system.
In this article, LINK, let’s assume to use the strategy based on the Chande Momentum Oscillator on Google stock.
Let’s try adding a trend filter to see if the strategy’s performance improves.
The rule that we will apply will be:
- Capital 50k
- Fixed Trade Size 10k
- Buy when CMO < -50
- Close Buy when CMO > 50
- Stop trade when price is below the 200-period DEMA
This strategy is only long.
|Long profit factor||2.86|
|Average trade long||135.21|
We see that the number of trades declines and the profit factor increase. The filter doesn’t increase the system’s performance overall but improves some aspects such as time to market.
DEMA crossover strategy in forex trading
The most classic of trading strategies is the crossover of two moving averages. Every trader in the world started with this strategy, and most likely every trader in the world has lost money with this strategy.
In past years, when markets had more defined trends and liquidity was lower, it could work.
However, we will race between a crossover strategy based on two simple moving averages and one based on two Double Exponential Moving Average both at 50 and 200 periods.
We will use EurUsd daily timeframe for the past 20 years.
Other variants of DEMA
DEMA slope Indicator
Another way to use moving averages is to create a slope function. By creating a Slope Double Exponential Moving Average, you should be able to improve the price analysis responsiveness further.
As soon as the DEMA decline, a bullish or bearish signal will be triggered.
Let’s see the DEMA Slope Indicator
We like smoothed indicators, so we couldn’t make our Double Exponential Moving Average smoothed as well. We remind you that the DEMA inside it is already composed of EMA smoothed on which the indicator is calculated.
Another change that we always like to make with our indicators is to create histogram versions because the chart remains clean and it is easier to check the trades of an automatic trading system.
In this case, it’s just a change in the way you view it, but we advise you to try it because even if you are a discretionary trade, focusing on prices is always the best choice.
A Double Exponential Moving Average is much more responsive and will find itself much more in tune with the market. Remember, however, that this will lead to an increase in false signals and, therefore, to the lower stability of the system.
By using a DEMA in an automated trading system, you will be able to increase the number of trades and improve the timing of entry of many operations. Still, you will reduce your average trade, the percentage profitable and your profit factor.
The choice is yours!