Trend Strategy with Moving Averages

It is a pleasure to reach you all again and this time to show you (after several months of patient follow up) a strategy that can be a useful tool in your trading. I am referring to the Perfect Order strategy that belongs to Kathy Lien and you can find it in the book “Daily Trading in the Forex Market”.

Well, I’ve actually made some changes to the strategy (I hope Kathy won’t get too upset with me) that are not changes of essence but of optimization. As always, I say to them, “first try out the strategies in your back-testing and then in the demos”. It is the best advice before taking a real account without the proper preparation and losing money in an absurd and senseless way. Read carefully, this strategy is an interesting trading system, but don’t forget that “there are no magic systems or systems that will make you a millionaire”.

See forex trading as an opportunity to manage a statistical system and then improve it as the market allows.

There are no miracle recipes in this business. I only know the recipe of the trader who practices, researches and works hard, how can everything in life be different from life, or do you think that trading is different from life and you can find shortcuts? Let’s go to strategy:

Indicators and context to use:

We will need SMA of 10, 50, 100 and 200 periods.
14-period RSI.
Work on 4 hour, 1 day and weekly charts. I don’t recommend minor graphics.

Example at SALES:
The basic thing is that the SMA’s are ALIGNED and all descending at an angle of 30 or 45 degrees downwards. At the top will be the 200 (pink), 100 (blue), 50 (red) and finally the 10 (light green) periods. This is a TENDENTIAL strategy so it is important that you confirm all the order and inclination. At the same time, it will be very important that the 14-period RSI falls from top to bottom and cuts the oversold zone. It is key for the RSI to show a significant, non-lateralising drop, as this will tell us that the downward trend is quite strong. Another basic aspect is to know for the week the trade is opened (and for the following weeks) if the pair to be traded is in a sharp drop or weakening. For example, if you open a EUR/USD sell position you should review the fundamentals that will come at least in the next 15 days on your news calendars and have a clear idea if Europe will be weakening (thus the euro will depreciate) and the US will be showing good macro data (with which the dollar will appreciate). Both situations are key to the success of the operation.

Please don’t be naive to think that strategies only work with technical analysis. If you think like that, you will only show that you will be potential losers in trading. Understand that currencies move through macro news (countries), and speculators (which abound). A trader needs to know what context they are in if they are not playing casino or throwing nonsense coins. I insist. I am not asking you to be expert fundamentalists, just to know that it is coming forward and to read what is in the news calendars. This is not going to cause them any stroke. On the contrary, they will be more confident in implementing the strategy (or not doing so) or expecting some correction from the market. They will be operating judiciously if they have a clear idea of the economic outlook. Never forget that.

EUR/USD

On January 28, 2010 the EUR/USD showed a “Perfect Order” as can be seen on the chart. We know that the macro data was hitting the euro hard and better and better indicators for North America were coming out every day, so the strategy went hand in hand with the fundamental information.

We go on sale for EUR/USD at the price of 1.4000. The SMA’s were all inclined and descending and so was the RSI. As it is a medium term strategy, it is best to use reasonable stop’s that allow you to have maneuvering and above all to withstand the market corrections. For a pair like the EUR/USD we could be talking about 100 to 180 stop pips. Look at how the EUR/USD moved for the next few days and how much it fell next.

You can apply up to 4 forms of Capital Management in order to exit the operation efficiently:

1. Apply a Risk Ratio: Profitability from 1 to 3; 1 to 4 or 1 to 5. If I risk 100 pips I go looking for at least 300 or if I risk 150 I will look for 450 (thinking of a 1:3 ratio) pips. In the example shown, this relationship was remarkable.

2. Run the Stop with a ratio of 1 to 4. That is if you are winning 200 pips at least secure 50 pips and let the pair run. This type of management is most commonly used when you have a fairly clear idea of the macroeconomic context. My recommendation is to let the pair run open “only” if you know the context. Control the anxiety of closing too quickly. In the example, the pair even reached 550 pips of gains so it could quietly close at that point or even gain at least 100 pips by running the stopwatch.

3. Close on any previous SUPPORT or RESISTANCE. Or in other words, close in some congestion zone where the pair could go into reverse.

4. Close when you see a change in the perfect order. This could be when the SMA of 10 is cutting to the SMA of 100 periods giving us a possible reversal signal. In the example shown, it would be from the first days of March 2010.

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