Moving average is the combination of the last few candles in the forex chart. Traders can use this simple technical analysis tools to identify the forex market trend. As we know that most of the retail forex trading strategy works well when the market moves within a trend, it is crucial for traders to know how we can identify trends using the moving average.
15 April, 2020, | AtoZ Markets –Most of the new traders struggle to identify the trend in the forex market. At the beginning of their trading career, they try to implement a trading strategy well. Later on, when they find that their strategy is not working, they switch to another method but face the same problem again.
Therefore, after trying a lot, they make huge losses and find forex trading as unprofitable. The main reason for changing the trading strategy and leaving the market is that they do not include the trend in their strategy. Most of the trading strategy works well when the market is moving within a trade. Therefore, it is crucial to identify the direction before implementing a trading strategy.
There are many methods to identify the forex market trend. Some traders use market movement in a higher timeframe, and some traders use fundamental aspects of the market. However, there are a lot of professional traders who use moving averages to identify the forex market trend. As the moving average is an element of technical analysis, it provides mostly accurate information regarding the trend.
Technical Analysis in Forex Market
The Forex market is the world’s largest financial market. Most of the market participants here are the central banks, hedge funds, insurance companies, and retail forex brokers. There are more than $6 trillion of transactions that happen every day in the forex market. Therefore, it is considered the world’s highly liquid financial market.
Is there any benefit to having much liquidity?
Sufficient liquidity means we can predict the movement with the price action of the market. As a result, the technical analysis works very well in the forex market rather than in other financial markets. Therefore, the moving average works well in forex trading compared to the different financial markets.
So, most famous analysts and financial institutes use technical tools like moving averages to predict the market trend.
Moving Average in the Forex Market
Moving average is generally the average price of the previous number of candles. In that sense, 20 moving averages indicate the average price of the last 20 candles. These technical analysis tools work well in all timeframes and all currency pairs.
There are several types of moving averages in the market, where two of them are very famous. These are the simple moving average and the exponential moving average. Before knowing how to implement it on the chart, we will see a glimpse of these:
- Simple Moving Average is the arithmetic interpretation of the price of a currency pair over several periods.
- The exponential moving average is the intricate measurement of the calculation of a moving average. To calculate the exponential moving average, we should calculate the simple moving average, and then multiply it with the weighting average.
Find Forex Trend Using the Moving Averages
It is the most famous technical tool to predict the forex market trade. The moving average generally indicates the average price of the last number of candles. Therefore, if the price is above the moving average, it means buyers have strengths compared to the average price. It is an indication that buying pressure may appear.
On the other hand, this concept applies to the bear market. For example, if we see the price is below a 20 period of the daily moving average, it means sellers are keeping the price below the last 20 days average price. It is a clear indication that sellers are influencing the price, and the price will likely move down.
We can follow these steps to identify the forex market trend using the moving averages:
#1 Identify the Bigger Picture of the Market
The higher time frame always provides better accuracy of the price movement. Therefore, most institutional traders follow a daily or weekly time frame in their trading. If we want to trade in the hourly chart, we should see the price action in the daily timeframe to see what is happening in the bigger timeframe.
There are no specific rules regarding the numeric value of the moving average. However, we can use 200 days moving average as it works well to predict the trend. In the beginning, we should go to the daily timeframe before moving to the lower timeframe.
If the price is above the 200 days moving average, the overall market trend is likely bullish. On the other hand, if the 200 moving average is above the price. The overall outlook may be bearish. Therefore, we will look for the selling opportunity only.
#2 Identify Short-term trend Using Dynamic Levels
As a dynamic level, we can use 20 exponential moving averages. These levels are a vital technical analysis tool, and most of the successful price action traders use it. The essential characteristic of the dynamic level is that it moves with the price.
To identify the bearish trend, we need to make sure that the price is below the 200 days moving average on the daily timeframe. Therefore, we should identify where the dynamic level is located. If the price remains below the 200 days moving average, we should find a rejection from the dynamic level of 20 EMA on the hourly timeframe.
The price reversal from the hourly timeframe might be with a price action candle of the pin bar, inside bar, or two bar rejection. After rejecting the price from 20 EMA, we will consider the short-term trend is bearish. So in the hourly timeframe, we will find the sell entries only and ignore any buy setups.
Identifying the direction market is very crucial for every trader as all of the retail trading strategies will work well when the market moves within a trend.
#3 Combine Short-term Trend with Long-term trend
If we see that the 200 days moving average on a daily timeframe and 20 EMA on an hourly timeframe is indicating the same direction, the market trend is likely reliable. In that case, our intention should be on the sell side only.
On the other hand, if the price is above the 200 day moving averages on a daily timeframe and 20 EMA on an hourly timeframe, our intention should be to buy only. For entering a position, we can follow any trend trading strategy, and you can match with the current market trend.
For example, if your trading strategy combines with the RSI and support and resistance and both are showing a sell signal, and 200 moving average and 20 EMA also shows the selling trend, it will be the higher possibility to hit the take profit.
Identifying the forex market trend is very important for a trader. Most of the new retail traders fail to identify trends. Moreover, many professionals follow trend trading only as their trading strategy.
On the other hand, a counter-trend trader needs to identify the trend to measure when the reversal comes. The important thing is that the overall retail trading strategy works well when the market moves within a trend. Like the stock market, the orders and volume are not presented in the forex market. Therefore, many traders struggle to predict the trend.
As the foreign exchange market is the world’s most liquid market in the world, the moving average works as a powerful indication to predict the market trend. Moreover, it works pretty well compared to the other trade trading indicators. However, there is a lot of uncertainty and risk associated with the market. So a trader should have substantial trading psychology and money management skill before proceeding to the trade.
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