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A Different Type of Moving Average Cross

Here's is where we start to have some fun. Regardless of how you want to trade the markets you need an approach. It might be spinning a bottle, asking your Aunt Jenny what she thinks or just gut feel.

However you do it, even though you may not think so, you have an approach.

The majority of traders will eventually use some form of technical analysis (also known as chart traders, market technicians and chartists).

Just before we go down this road of mystical wonder I think it is very important that you hear both side of the argument of why technical analysis works.

For every book that there is on making money trading there is probably an opposite book explaining why it can't be done. Before you dismiss the last statement out of hand. Lets explore the argument that no matter what you do you can't beat the market.

Virtually every trader has dabbled with or experimented with some sort of moving average. What I want to introduce you to in this lesson is a different sort of moving average cross method, which I have found to be very good at identifying short term trend changes.

As we know a moving average is normally plotted using the close of a bar e.g. if you were plotting a 3 period moving average, then you would add the last three closes and divide the total by three to get a simple moving average.

This is where I want you to think a little differently. I have always been an advocate of taking traditional thinking and changing it around. What if you used the open instead of the close? What if you used the close of one period of a moving average and the open of another?

First, most charting packages will allow you to use the open, high, low or close to plot a moving average.

You could use ADX, Stochastic or MACD to help filter the noise but I also like to add a time frame.

There are lots of ways to trade this but a neat little trick is to wait for the signal on a higher time frame and then drop down a few time frames and wait for a pullback. The first signal after the pullback on the lower time frame is normally a pretty good entry point e.g. If there were a cross up on the large time frame then drop down to a lower time frame and wait for the market to retrace and then give another buy signal (cross up). The opposite is true for short signals.

Once you get the signal on the shorter time frame depending on where support is you can usually place your first stop loss under the nearest support area (valley). If the market begins to make progress you can move your stop so that it trails the market by moving your stop to just under the most recent support area.

In this lesson I have use an exponential moving average but experiment with different types of average such as weighted, smoothed or simple. You can also experiment with different lengths of moving average.

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