A forex trader can create a simple trading strategy to take advantage trading opportunities using just a few moving averages (MAs) or associated indicators.
Moving averages are a frequently used technical indicator in forex trading, especially over 10, 50, 100, and 200 periods. MAs are used primarily as trend indicators and also identify support and resistance levels. The two most common MAs are the simple moving average (SMA), which is the average price over a given number of time periods, and the exponential moving average (EMA), which gives more weight to recent prices.
Below we’ve outlined several trading strategies designed for intraday as well as long-term trading.
Moving Average Trading Strategy
This moving average trading strategy uses the EMA, because this type of average is designed to respond quickly to price changes. Here are the strategy steps.
- Plot three exponential moving averages – a five-period EMA, a 20-period EMA, and 50-period EMA – on a 15-minute chart.
- Buy when the five-period EMA crosses from below to above the 20-period EMA, and the price, five, and 20-period EMAs are above the 50 EMA.
- For a sell trade, sell when the five-period EMA crosses from above to below the 20-period EMA, and both EMAs and the price are below the 50-period EMA.
- Place the initial stop-loss order below the 20-period EMA (for a buy trade), or alternatively about 10 pips from the entry price.
- An optional step is to move the stop-loss to break even when the trade is 10 pips profitable.
- Consider placing a profit target of 20 pips, or alternatively exit when the five-period falls below the 20-period if long, or when the five moves above the 20 when short.
Forex traders often use a short-term MA crossover of a long-term MA as the basis for a trading strategy. Play with different MA lengths or time frames to see which works best for you.
Moving Average Envelopes Trading Strategy
Moving average envelopes are percentage-based envelopes set above and below a moving average. The type of moving average that is set as the basis for the envelopes does not matter, so forex traders can use either a simple, exponential or weighted MA.
Forex traders should test out different percentages, time intervals, and currency pairs to understand how they can best employ an envelope strategy. It is most common to see envelopes over 10- to 100-day periods and using bands that have a distance from the moving average of between 1-10% for daily charts. If day trading, the envelopes will often be much less than 1%. On the one-minute chart below, the MA length is 20 and the envelopes are 0.05%. Settings, especially the percentage, may need to be changed from day to day depending on volatility. Use settings that align the strategy below to the price action of the day.
Ideally, trade only when there is a strong overall directional bias to the price. Then, only trade in that direction. If the price is in an uptrend, consider buying once the price approaches the middle-band (MA) and then starts to rally off of it. In a strong downtrend, short when the price approaches the middle-band and then starts to drop away from it.
Once a short is taken, place a stop-loss one pip above the recent…