The Moving Average Strategy Guide
The moving average is likely to be one of the first indicators you will discover when learning how to trade Forex online. However, far from being just for beginners, the moving average is one of the most important technical indicators and is the basis for numerous successful trading strategies.
In this article, we will provide a guide of four of our favourite moving average trading strategies and discuss how you can find the best moving average strategy for you!
What Is the Moving Average Indicator?
A Moving Average (MA) is a mean average continuously calculated over a specified time period. The moving part of the name is there because we calculate a new value as each time frame advances, so that the value of our average adjusts with changes in the price.
How do you calculate a moving average? If we use a 50-day moving average, the value is the mean average of the price over the previous 50 days. In other words, we add up each of the last 50 closing prices and then divide the total by 50.
This value is re-calculated every day, discarding the oldest value in the data set, in favour of the most recently occurring day.
A moving average, therefore, smooths out price fluctuations and can be used to help us identify trends in the market. They can be used in conjunction with other moving averages covering different time periods or other technical indicators to construct a moving average trading strategy.
The Moving Average Crossover Strategy
This is a simple moving average strategy that provides you with a signal to trade when a faster moving average crosses over a slower one. Take a look at the daily GBPUSD chart below. A 30-period moving average has been added, which appears as a thin red dotted line. A slower 100-period moving average has also been added, which is the thicker green line.
The rules of this moving average strategy are simple - when the faster red MA crosses above the slower green one, you buy. When it crosses below, you sell. As we can see, on 1 July 2020, the faster MA crossed above the slower MA. This was our signal to buy. Notice how in the example above the price continued to trend higher after we received the buy signal. However, it is important to note that this will not always be the case.
This moving average trading strategy always leaves you with a position in the market, whether that is long or short. The signal to close your position would be when the faster MA crosses back below the slower one. At this point you would square and reverse, going short in the market.
So what can we do if we do not always want to have a position in the market? We can use a slightly more complex version of the strategy, that adds a third moving average. This is known as the triple moving average strategy.
Trade on a Demo Account
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The Triple Moving Average Strategy
As the name suggests, this moving average strategy uses three MAs: one fast, one medium and one slow.
The trading signals are generated by the fastest moving average crossing over the medium-length average, just as with the dual strategy. However, there is an additional rule to consider – the slowest moving average acts a trend filter. This means that you can only place a trade if the two faster MAs are the correct side of the filter line. To go long, both need to be higher. To take a short position, both need to be lower.
The daily EURUSD chart below shows three moving averages added for this strategy. The red line is a 150-day moving average. The green line is a 250-day moving average. The blue line is a 350-day moving average - this is our filter line.
We can see on the chart above, that the faster red moving average crosses above the green moving average on 24 July 2020. However, at this stage, both the red and green MAs remain below the slower blue MA - meaning that, according to this moving average strategy – we have not yet received a buy signal.
The signal arrives on 15 September 2020, indicated by the vertical red line when the green MA follows the faster red MA above the blue – thus meaning that both lines are the correct side of our filter to initiate a long position.
The Moving Average Ribbon Strategy
A moving average ribbon is a collection of MAs (usually between 6 and 16) with a variety of different time periods on the same chart. The result of these multiple MAs produces a ribbon-like effect, hence the name. The MAs vary in length from short-term to long-term and the resulting ribbon effect provides an indication of both the trend direction and its strength.
When the MAs are parallel and evenly spaced this means that the current trend is strong. An expansion between ribbons can indicate a possible end of the current trend and the contraction of the ribbons can indicate the beginning of a new trend.
As with previous strategies, buy and sell signals are indicated by crossovers. However, due to the number of MAs and, therefore, crossovers involved, the trader must decide for themselves how many crossovers indicate a suitable trading signal for their moving average ribbon strategy.
The type of moving average used for this strategy is an Exponential Moving Average (EMA) as opposed to the Simple Moving Averages (SMA) we have seen in the previous sections. Unlike the SMA, which assigns an equal weighting to all previous prices used in the calculation, the EMA places a greater weight on the most recent prices.
On the chart below there are 11 EMAs (10,20,30,40,50,60,70,80,90,100,150).
The Admiral Keltner Moving Average Strategy
Trading using the MA indicator is based on the assumption that future values will tend to follow the trend. Historical data is an imperfect guide to predicting the unknown future. However, it is one of the few tools we have available.
Moving averages provide a simple and effective demonstration of the average value of an asset over an observed period of time.
Instead of relying solely on MAs, some traders may choose to use moving average trading strategies which use the MA as a trend filter and enlist the use of a separate indicator for their trading signals.
An example of this would be a trading strategy using two MAs and the Admiral Keltner Channel indicator.
In the USDJPY chart below, we have a 20-period MA (red), a 50-period MA (green) and the Admiral Keltner with its default settings.
Buy Signal: When the price breaks above the Keltner Channel AND the red MA is above the green MA
Sell Signal: When the price breaks below the Keltner Channel AND the red MA is below the green MA
What Is the Best Moving Average Trading Strategy?
So which is the best moving average strategy to trade Forex?
There is no one-size-fits all answer to this, because the most suitable trading strategy will depend on the preferences of the individual trader. One way to help you decide what works best for you is to backtest your strategy. The trading simulator that comes with the MetaTrader 5 Supreme Edition plugin is a great way to manually test different strategies with historic price data.
It is a similar story when it comes to picking a suitable time frame for your averaging. If you are dealing on shorter time frames, you will need to be dealing with a suitably fast-moving indicator.
So, if you are trading with a day trading moving average strategy, perhaps it makes sense for you to use a 30-period moving average on a 15-minute chart. If you are a long-term trend follower, you may find that something as long as a 350-day moving average is more appropriate. Someone looking to use a swing trading moving average strategy may use a time frame somewhere in between the two.
A useful way to decide which settings are best for your strategy is to experiment with a demo trading account. This will allow you to fine-tune your system without taking on unnecessary risk whilst you are still operating in trial-and-error mode.
Other articles you may find interesting:
- Trading Risk Management: Top 10 Forex Risk Management Tips
- Forex Trend: How to Predict The Forex Market
- Day Trading Stocks Guide for 2023
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Frequently Asked Questions on Moving Averages
How do you calculate a moving average?
A moving average is calculated by adding the closing prices of a fixed number of bars and then dividing that figure by the number of bars used. As there are a variety of different moving averages the calculations can change.
What are the 4 major moving averages?
The most commonly used moving averages are the 20-day, 50-day, 100-day and 200-day moving averages. These are quoted in financial media and represent trends over short-term, medium-term and the long-term.
Is moving average a good indicator?
A moving average can be a good indicator to help identify the overall trend of the market. In some cases, prices can turn around the moving averages as well. However, moving averages are lagging which is why traders would use a combination of tools on top of the moving average.
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This material does not contain and should not be construed as containing investment advice, investment recommendations, an offer of or solicitation for any transactions in financial instruments. Please note that such trading analysis is not a reliable indicator for any current or future performance, as circumstances may change over time. Before making any investment decisions, you should seek advice from independent financial advisors to ensure you understand the risks.
