KAMA - Kaufman Adaptive Moving Average

SC (Smoothing Constant) is a standard part of the moving average construction. The SC determines the level to which the moving average is sensitive to existing price swings. SC moves in the range from 0 to 1. The lower the Smoothing Constant, the less sensible the moving average is. Kaufman adjusted Exponential moving average in such way that the SC would follow not just the direction but also the market volatility. And that provides us great opportunities.

E.g. if every day would close higher than the previous day, ER would be equal to 1. Should the market move sideways with none price change at all, ER would be equal to 0.

2. Determine the shortest and longest moving average we want to use in the KAMA calculation. Calculate the Smoothing Constant - SC of these averages. Kaufman recommended to use the range from 2 days to 30 days, so that would be equal to 0.6667 for the shortest Moving average and 0.0645 for the longest Moving average.

As we have mentioned before: If e.g.10 days used for KAMA calculation close in the same direction (i.e. allways higher than the previous day), the ER would be equal to 1. In such case the SC would be 0.6667 (because we chosed a 2-days moving average as the shortest one). If the market move sideways, the ER would be 0, so the SC of the longest Moving Average would be used (that is the 30-days moving average). KAMA shortens and extends the time period used for moving average calculation according to the conditions that prevail on the market. KAMA becomes more sensible or robust in dependence on the market.

Even though KAMA would be calculated as an 30-days Moving average during choppy market, it still moves slightly up and down. Kaufman recommended to make the SC less sensible by its squaring. So the next step is:

3. C = SC x SC

C is the final smoothing constant that is used for the KAMA calculation. The whole and final KAMA calculation looks similar to EMA calculation. Its formula is:

4. KAMA = Kama t-1 +[(C*(Close t – Kama t-1)]

KAMA belongs to less known moving averages. Its main advantage is that it takes into consideration not just the direction, but the market volatility as well. KAMA adjusts its length according to the prevailing market conditions. Just a few indicators of technical analysis give us similar opportunities.

KAMA informs us about trends prevailing on the market. That is also one of the techniques how to use it for trading. Other ways of using it are similar to all the moving averages. And it can be used to smooth some other technical indicators as well.