Identifying a trend Entering as close as possible to the start of the trend Staying in the trend Exiting it when the trend is becoming exhausted or starts reversing. The AUD after a pip trend and still going. Knowing when a trend starts and is finished is not always easy is this trend over? Finding a trend after it has been in place is easy looking back.
How would you have known there was a trend starting? Where would you have entered? How would have stayed in the deal for pips? Where would you exit? A moving average simply smoothes the path of the price by taking an average of the information of the last number of candles and shows this line on the chart.
This means it is an ordinary moving average moved forward by 3 periods. It is set on the closing price. These are personal settings based on personal experience and are not trading laws.
Please feel free to try for instance settings of 2 advance by 2, or 4 advance by 4 if you like to see if they suit you better give you better trading signals. These settings have been determined by Barry over the years to give the most amount of information to him during forex trading sessions or position trading trades.
The principles we will be discussing are universal to all charts from the 1 minute chart to the monthly charts. The same chart without the 3 period shift - there is not that much information one can get from the MA without the shift. Some moving average systems use a 2 moving average crossover approach. The 5 and 8 simple Moving Average with no shift is shown below. You can see how much simpler, quicker and clearer the signals are using the 3 shifted by 3 setting above.
So what information do we get from this moving average that adds value to our trading Listed in no particular order. Firstly the position of the price relative to the moving average gives you a good indication as to which mode the price is in very simply if the price is above the moving average it is in the buy zone and below the moving average it is in a sell zone. Secondly, the angle of the moving average determines the latest trend of the price.
If the angle is up, it is in a buy direction and if the angle is down, it is in a sell direction. The amount of time the number of periods the price spends below or above the moving average helps us determine the strength of the trend.
The distance of the price from the moving average determines the strength of the latest market move as result of a change in trend. The moving average helps us determine a type of non horizontal support or resistance barrier that the price movement is creating. By displacing the moving average which is based on the last 3 historical candles 3 periods forward we are using history to predict the likely future position of the price in 3 periods time.
It is this deviation from this prediction that provides trading opportunities we will see this later on. This turns the Moving Average into a leading indicator.
The direction that the price is moving in relation to the moving average direction parallel or at right angles is additional information if the price is moving towards the moving average it signals a possible trend reversal and if it is moving away from the moving average it is signalling a strong trend.
When the moving average is moving through the current candles it likely that there is no trend and the market is trading sideways. There is even info on when there is no trend. Quite a lot of information from a simple indicator! So let look at the above points in more detail. Firstly the position of the price relative to the moving average gives you a good indication in which mode or in which Zone the price finds itself very simply, if the price is above the moving average it is in the BUY zone and below the moving average it is in a SELL zone.
This is because when using moving averages you are using the moving average as your personal support and resistance barrier for the price. If the angle is up it is in a buy direction and if the angle is down it is in a sell direction.
The distance of the price from the moving average determines the strength of the latest market moves as result of a change in trend. This is a weaker trend as the price is hugging the Moving Average and can easily crossover into the other side of the Moving average.
This is a stronger trend as the distance More white space between the price and the Moving Average is larger. The moving average helps us determine a type of dynamic, non horizontal support or resistance barrier that the price movement is creating. Just like trendlines determine support and resistance areas, the 3 period and 3 offset moving average creates a dynamic support and resistance barrier.
By displacing the moving average which is based on the last 3 historical candles 3 periods forward we are using history to predict the likely future position of the price in 3 periods. This turns a lagging indicator ordinary moving averages are lagging indicators into a leading indicator as it indicating a possible future position of the Price. The difference between where we anticipate the price to be and where it is, makes the start or the change of a trend easier to see.
The direction the price is moving in relation to the moving average is additional information. The Red arrows show the candles that are trading in the same direction of the Moving Average Parallel to the MA and show a good trend. The Blue arrows show candles that are trading towards right angles the direction of the moving average and this signals a trend reversal.
When the moving average is moving through the current candles it is likely that there is no trend and the market is trading sideways. This is a time to refrain from trading and to be very strict about applying the signals that add more certainty to the deal see future sections.
So the above seems to indicate that when the price moves over the moving average from the bottom you would simply enter a buy transaction or if it moves over the moving average from the top you would simply enter a sell transaction. You would simply stay in the transaction as long as the price stays in the zone and direction your deal is in and then exit when the price moves over the moving average into the opposite side of the moving average as shown below.
This is partially true but if you follow this blindly you will find that you will encounter whipsaws Transactions changing direction often causing losses or loss making transactions. In the next section we will look at ways of filtering out most of these whipsaws. This is one of the weaknesses of using the moving average crossover technique.
So ignoring the entry whipsaw danger for the moment lets look at how to enter, stay in a deal and exit a deal. We will also discuss possible places to put your stoploss orders in the case of whipsaw transactions. The best way of entering a transaction when using the Moving Average crossover system is to enter on the close of the candle that crosses over the moving average. This ensures that the price has crossed over the moving average and that a new candle will start in the direction of your trade.
As long as the price candle closes in a favourable zone in relation to the moving average, you should stay in the deal. When using the Moving Average crossover system you would exit in 3 ways The price would move over the moving average and close in the zone opposite to your entry.
You would manually exit Manual exits could be for many reasons such as the price has reached major support or resistance, a reasonable profit has been registered and you dont want to give anything back, week end market close, etc.
The price would hit your stop Books can be written about where to put your stops. In general when entering a deal you should place your stop at the previous swing high or swing low. That basically means that your stop should be placed at the last turning point where the price was rejected pushed back by the market in the case of an upward trend or a downward trend reversal the previous trends reversal point.
Once the deal is active the normal rules of staying in the deal apply. You would only exit on a close on the opposite side of the MA to the one you are trading. If you are in a sell you would exit on a close of the price above the MA or if you were in a Buy you would exit on the close of the price below the moving average. As your trading experience increases you will find refinements to this rule. So our next challenge is to try to avoid the possibility of whipsaws. We need to determine the conditions where whipsaws are less likely to happen and trends are likely to occur.
There are a number of clues that determine if the price movement will be strong when it breaks through the moving average and start a new trend. These are Reversal price formations Reversal candle formations Strong support or resistance breakout failures Wave counts RSI trendline violations Price trendline violations.
Time of the day factors. This particular reversal candle formation is quite a strong one. The setup candle the blue one makes a spike and retraces. The next candle makes a bigger spike and retraces past the close of the previous candle causing the candle to change colour. This gives more certainty when the price eventually crosses over the moving average. The candle formation is an Evening star formation where there are 3 spikes.
The middle one is the longest and third candle then starts reversing. This is at the end of an up trend. At the end of a down trend the formation is called a morning star and is just reversed. These formations can be equated to the Head and shoulders reversal formation as the same price movement occurs when the head and shoulders appear. Remember that Railway track candle formations, as shown in the lower chart, are nothing more than a spike when added together so treat them as spike reversal signals too.
A double top or a double bottom is a great reversal formation at the end of a trend. This example shows how the price closed below the moving average after a double top formation adding more importance to the moving average crossover.
When the price continuously tries to break through support or resistance and cant break through, it will eventually start trending the other way.
More importance is given to the moving average crossover when this happens. In this example the price tried a number of times to break through the upper resistance as evidenced by the many spikes, and when it changed direction it crossed over the moving average creating a sell opportunity.
Experience has shown that good crossovers through moving average lines normally have 2 or more well formed waves. These waves are sometimes visible on the price chart as shown on the RSI indicator. In this example of the USDJPY 5 minute chart you can see that the RSI indicator set at a 4 setting not only helps us count the waves in price movements but also provides trendline violation opportunities.
When the RSI has a trendline violation which happens either before or at the same time the candle cuts through the moving average, you can regard this as a confirmation signal to trade the moving average crossover. Price trendline violations.
More importance is given to moving average crossovers if they are accompanied by a trendline violation before or just after the moving average crossover. The volume information shown below shows the volumes and volatility generated by the 3 major forex markets. These high volume periods are often when trends develop and the Magic Moving Average works well in trends.
When considering which time frame to use to trade the Magic Moving Average technique, it is always a good idea to review the actual charts to see how the price relates to the indicator in terms of showing clear trends.
The way of doing this is by setting the indicator and then flipping through the time frames to see in which timeframe the indicator shows the trends the clearest. Using this method you can also determine how you would like to trade. For instance: Using the 5 minute timeframe would require you to re assess the trades every 5 minutes. This would apply if you are keen at doing faster scalp trading transactions which could give you 5 to 7 transactions in a 3 to 4 hour period.
The other approach would be to use the Daily charts which means that you would evaluate the trades once a day. This is less stressful and ideal if you are trading part time. This however will only give you a transaction every 7 to 12 days. Timeframes between the two 15min, 30 min, 60 min, 4hours may suit traders with other approaches that allow them to re-evaluate deals regularly.
The charts below have the same number of candles per chart and result in the following statistics: Chart 5 min 15 min 30 min 1 hour 4 hours Daily. Average Transaction rate 1 every 36 minutes 1 every 2. If a transaction every 36 minutes is too slow for you, you could consider trading more currencies at the same time. The longer term charts seem to give good trending transactions and require less supervision.
You should use the time scale that suits your life style, temperament, available time. From the discussion so far, every time the price crosses over the Magic Moving Average there is a trading opportunity on the close of the crossover candle.
Before we blindly enter the trade we should do the following checks: Are there reversal candle formations before the crossover? Are there reversal price patterns before the crossover? Is there a price chart trendline that is being violated as part of the crossover? Is there an RSI trendline violation? Has there been a strong rejection of the strong support or resistance?
Is the market currently showing low volatility? The candles had made railway track reversal formations and the price had tested upper resistance and failed. The price had made 2 nice waves on the price chart and the RSI. The RSI had a trendline violation confirming downward momentum. The trader entered on the close of the candle, with a top above the previous candle high as a stop. The previous support or swing low was selected as a tentative target.
The price remained below the moving average for over pips before retracing and closing above the moving average for a gain of pips. Please note that the price did cross the moving average a number of times but never closed above it. This kept the trader in the deal all the time.
It is important to also highlight some of the short comings of the Magic Moving Average system. It is very easy to understand and is calculated by adding prices over a given number of periods, then dividing the sum by the number of periods. For example; a day SMA would add together the closing prices for the last 10 days and then divide the total number by 10; a simple arithmetic mean.
Each time a new period occurs, the moving average moves forward dropping its first data point and adding the newest one. Here is another example of a 6-day SMA:. To calculate SMA, divide the total of closing prices by the number of periods. After that, calculate the weighting multiplier. Formula for a day EMA:. Forex Markets are extraordinarily liquid because of the vast number of participants. Stocks can also be liquid, but will be less liquid once you have moved away from the blue chips.
Moving Averages allows you to look at the data smoothly rather than focusing on daily price fluctuations from all financial markets.
The time frame plays a significant role on how effective your moving average will be. This moving average length can be applied to any of your chart time frames depending on your time horizon. The Day Moving Average is one of the most popular technical indicators used by traders. This indicator can be found on the charts of investment banks, hedge funds, and market makers. It is considered as a key indicator for determining the overall long-term trend.
Investors use it to analyze price trends. You can get the moving average by taking the securities closing price over the last days. Just like the Day moving average, the Day moving average is one of the most popular technical indicators that investors use for predicting and tracking price trends.
There are things you need to know about the EMA. It is used to separate bull territory from bear territory. To help you start you need to know that;. Possible example of how it works:. Known as the most basic type of signal, crossovers are the most favored among traders as they remove all emotions. They are used to identify shifts in momentum and can be used to determine entry and exit strategy.
A moving average crossover occurs when the traces of two moving averages cross. Crossovers shows trends but does not predict future direction.
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