Forex traders can use several moving averages (MAs) or related indicators to create simple trading strategies to take advantage of trading opportunities. MA is primarily used as a trend indicator and also identifies levels of support and resistance. The two most common MAs are the simple moving average (SMA), which is the average price for a particular time period, and the index moving average (EMA), which gives more weight to recent prices. Both of these build the basic structure of the following Forex trading strategies:
- Moving averages are a frequently used technical indicator in forex trading, especially over the period of 10, 50, 100, and 200 days.
- The following strategies are not limited to a specific time frame and can be applied to both day trading and long-term strategies.
- The moving average trading metric can be used alone, as an envelope, ribbon, or as a convergence-divergence strategy.
- The moving average is a lagging indicator. That is, it does not predict where the price is heading, it just provides data on where the price is.
- Moving averages and related strategies tend to work most effectively in trendy markets.
Moving average trading strategy
This moving average trading strategy uses EMA because this type of average is designed to respond quickly to price fluctuations. This is the strategic step.
- Plot the three exponential moving averages (5-period EMA, 20-period EMA, and 50-period EMA) on a 15-minute chart.
- Purchase when the 5-period EMA crosses from bottom to top of the 20-period EMA and the price, 5-period, and 20-period EMA exceed 50 EMA.
- In the case of a sell transaction, sell when the 5-period EMA crosses from top to bottom of the 20-period EMA and both the EMA and the price fall below the 50-period EMA.
- The first stop-loss order is placed below the 20-term EMA (for buy transactions) or approximately 10 pips below the entry price.
- The optional step is to move the stop loss to the break-even point, even if the trade is making a profit of 10 pips.
- Consider setting a profit target of 20 pips. Alternatively, if the 5 period is long, it will end if it is less than 20 periods, or if the 5 period is short, it will end if it is more than 20.
Forex traders often use short-term MA crossovers of long-term MA as the basis for their trading strategies. Play with different MA lengths or time frames to see which one works best for you.
Moving Average Envelope Trading Strategy
The moving average envelope is a percentage-based envelope set above and below the moving average. Forex traders can use either simple, exponential, or weighted MA because the type of moving average that is set as the basis of the envelope is not important.
Forex traders need to test different percentages, time intervals and currency pairs to understand how to best adopt the envelope strategy. It is most common to check the envelope over a period of 10 to 100 days and use “bands” with a distance of 1 to 10% from the moving average in daily charts.
For day trading, the envelope is often less than 1%. In the 1 minute chart below, the MA length is 20 and the envelope is 0.05%. Settings, especially percentages, may need to be changed daily depending on volatility. Use settings that match the following strategies to the price action of the day.
Ideally, trade only if there is a strong overall directional bias in the price. And most traders trade only in that direction. If prices are on the rise, consider buying when prices approach the Middle Band (MA) and then begin to rise. In a strong downtrend, consider shorting when prices approach the middle band and then begin to fall.
After a short, put a stop loss on one pip of the recent swing high that has just been formed. After a long trade, place a pip of stop loss under the newly formed swing low. Consider ending when the price reaches the lower limit band for short trades or the upper limit band for long trades. Alternatively, set a goal that is at least twice the risk. For example, if you are at risk of 5 pips, set a target 10 pips away from your entry.
Moving Average Ribbon Trading Strategy
The Moving Average Ribbon can be used to create a basic Forex trading strategy based on the slow transition of trend changes. It is available for trend changes in either direction (up or down).
Creating a moving average ribbon is based on the belief that more are better when plotting moving averages on a chart. The ribbon is formed by a series of 8-15 exponential moving averages (EMAs) that vary from very short-term averages to long-term averages, all plotted on the same chart. The resulting average ribbon is intended to indicate both the direction of the trend and the strength of the trend. The fan-out or expansion of the ribbon due to the steeper angles of the moving averages and the greater separation between them shows a strong tendency.
The traditional buy or sell signal on the moving average ribbon is the same type of crossover signal used in other moving average strategies. Due to the large number of crossovers involved, traders need to choose the number of crossovers that make up the appropriate trading signal.
Another strategy can be used to offer high profit potential for low risk transaction entries. The strategies outlined below aim to catch decisive market breakouts in either direction. This often happens after the market has been traded tightly and narrowly for a long period of time.
To use this strategy, consider the following steps:
- Note the period during which all (or most) of the moving averages converge closely when prices flatten to a flat range. Ideally, the various moving averages are so close that almost one thick line is formed and there is little separation between the individual moving averages.
- Enclose a narrow trading range with buy orders above the upper limit of the range and sell orders below the lower limit of the range. When a buy order is triggered, it places the first stop-loss order below the lower limit of the trading range. If a sell order is triggered, it will stop just above the upper bound of the range.
Moving Average Convergence Divergence Trading Strategy
The Moving Average Convergence and Divergence (MACD) histogram shows the difference between the two exponential moving averages (EMA), the 26-term EMA, and the 12-period EMA. In addition, the 9-period EMA is plotted as a histogram overlay. The histogram shows positive or negative readings associated with the zero line. Most often used in forex trading as an indicator of momentum, MACD can also be used to indicate market direction and trends.
There are various forex trading strategies that you can create using the MACD indicator. Here is an example.
- Trade MACD and signal line crossovers. Using the trend as a context, if the price is on the uptrend (MACD must be above the zero line), buy when the MACD crosses the top of the signal line from below. In the downtrend (MACD must be below the zero line), it shortsells when the MACD falls below the signal line.
- If it is long, it will end when the MACD falls below the signal line.
- If it is short, it will end when the MACD returns above the signal line.
- At the start of the trade, if it gets longer, put a stop loss just below the most recent swing low. If there is a shortage, place a stop loss just above the nearest swing high.
Guppy Multiple Moving Average
The Guppy Multiple Moving Average (GMMA) consists of two separate sets of Exponential Moving Averages (EMA). The first set contains EMAs for the last 3, 5, 8, 10, 12, and 15 trading days. Australian trader and GMMA inventor Daryl Guppy said this first set was …