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Moving Averages as a Trading Strategy

Easy to use and understand technical indicator in forex trading

There are several tools available for traders, and finding the appropriate combination of fundamental and technical indicators can be complicated, so it is important to identify the most convenient mix that fits your own trading style. Moreover, the most common mistake is to populate the charts with so many indicators that they may become unintelligible or very hard to understand even to experimented traders. Therefore, the challenge is to select the indicators set with the cleanest appearance so that they are easy to read and understand. After all, it is not surprise that the more simple and pleasing charts are the ones that allow you to enhance your profit probabilities.

Currency trading indicators

To simplify your trading market analysis, use technical indicators that won't clutter your screen
and be easy to read and understand, for better analysis.

Moving Averages Indicator

In this order, Moving Average (MA) is a straightforward technical indicator and one of the more employed within the trading community. There are four main methods to calculate moving averages by default on trading software: simple, smoothed, exponential and linear weighted. These moving averages are automatically calculated and can be applied to opening price or a closing price. The most common practice is to select the closing price. In addition, it allows choosing the total of periods to compute the moving averages since this number represents the quantity of candles to be considered and it depends on the chart timeframe.

When looking at an hourly chart with a 50 period, the indicator will estimate the moving average for the prices observed during the last 50 hours (MA50). To choose the most adequate type and period for moving average, the trader should observe how the indicator is adjusting to the past price performance, given price support and resistance levels. Also, based on market volatility and length of timeframe, it would be more convenient choosing one type of moving average, as well as a bigger or smaller number of periods.

How to Identify Trends Using Moving Average

Since Moving Averages use past references to draw the lines, they are great help when it comes to identifying trends. Every time the price is over the MA, it suggests that there is a downtrend, because the current price is lower than the average in recent past. Otherwise, if the actual price is under the MA is disclosing an upward tendency. While the present price is moving up and down, MA is indicating a tendency reversal. The first warning is to certify that the trend is confirmed at least for two different types of moving averages (MA).

Cross Over Strategy

For the cross over strategy, there are employed two moving averages, the most common practice is to work with 10 and 20 number of observations according to the timeframe analyzed. This method is called “Cross Over”, because it is based on the point when MA10 crosses the MA20. It is expected that the moving average for less number of observations reacts faster to change in trend. So, when this occurs in whatever direction, is confirming the correspondent switch and the trade should go in the same route. This reaction in moving average implies some delay, for this reason, this procedure is recommended for long-term traders.

Determining Support and Resistance Levels

One of the main advantages of the strategies previously explained is that they make possible to identify support and resistance price levels, during either an upward or a downward tendency. This is why most traders around the world use two or three types of moving averages as one of the principal technical indicators in their strategies. Some trends do not describe a consecutive line, there are tops and downs and moving average out these oscillations, giving certainty about the direction of the price evolution.

Moving average works well to define when these price corrections are done, and when a tendency is confirmed. However, it works much better with other technical indicators such as Stochastics or RSI, because it never happens exactly the same way as it was expected. On the other hand, do not forget the importance of seeing the big picture, and trying not to be so rigorous.

Working with moving averages in two different timeframes can be helpful to confirm a change in the tendency when a specific moving average is not clear at all. As well as Stochastics reinforces the signal of trend reversals, it also compares the moving averages for smaller and longer periods of time. Not all traders analyze the same timeframes, so when the biggest part of them corresponds, then the change is stronger. But do not forget, when the trends are in their maximum speed, both support and resistance levels are given by shorter moving averages, and this is the best moment to trade. Once the tendency is powerless and moving averages lines are kind of steady, traders look at longer period moving averages to find support and resistance levels.

To summarize, as the growth ratio of tendency is higher, working with a smaller period for moving averages is the best choice to determine resistance levels. No matter if this happens at the beginning or at the end of the change of the direction. Once these moving averages are broken, they turn into new support levels and the other way. You can use moving averages on both, Forex trading or binary options trading instruments using Meta Trader 4 and demo account.

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