the daily chartist

Trading strategy using Moving Averages

published 5 years ago

Moving averages (MA) indicator is one of the simplest and useful technical indicators out there. They are known to everyone, experienced in the field of statistic of smoothening the trend. In the analysis in the financial markets they apply the same way, but their role is much more significant. Moving Averages are used as a trend line, which adapts to the dynamic changes in price and it is not like the standard trend line for capturing the full trend on its bottoms and tops. They are also used to track levels of resistance and support and are most effective when the trend is nicely shaped. A trend's correction most often ends when price reached an important MA. The most used periods are 5, 10, 20, 50, 100 and 200. MA 20 and MA 50 are recommended when searching levels of support and resistance. There are different kinds of moving averages - exponential and simple, smoothed and linear weighted, but for the purpose of this strategy review, I will be using one exponential MA (20).

 There are a lot of trading strategies, based on the principle of the MA - combined several MAs, MA and another indicator, MA and Fibonacci levels, crossover MA or MA crossover with the price. Here I will lay out a simple, but yet useful MA crossover strategy when MA is crossed by the price. For avoiding false signals or premature opening of a position, we will wait for a confirmation from the price itself. The candle or the bar (candle chart will be used here) in the period which the signal is generated, we will call signal candle. The position will be opened when the extremes of the signal bar are breached. This is a strategy used to follow the trend and the risk/award ratio will be a bigger. To avoid strong negative fallouts from a number of false signals or bad signals we can open positions of several lots. When we reach some amount of profit we can close a part of the position to guarantee some income and with the rest of the position to pursue better results as we move our stop loss levels in the direction of the market. 

 Rules of opening and closing are simple:

 Long position:

  1. We buy when price breaches the highest value of the candle, which has breached the EMA (exponential moving average) 20 (the signal candle/bar) from down towards up. We put our stop loss order at 3-5 pips bellow the lowest point of the signal candle. When price goes up we move the stop loss with the same 3-5 pips under the highest point of every next candle. 
  2. We close the position when price breaches again EMA 20 from top towards down or when our stop loss is reached.

 Short position:

  1. We sell when price breaches the lowest point of the candle which has breached the EMA 20 from top towards down. We put our 3-5 pips stop loss above the highest point of the signal candle. When price goes down, we move our stop loss (SL for short) 3-5 pips above the highest value on every next candle.
  2. We close the position when price breaches again EMA 20 from down towards up or when our SL is reached. 

 Give it a try on demo account before going with this strategy live.