Moving averages are one of the most useful
tools for traders who want to identify the main trend of the equities and futures markets. Forex trading patterns are
similar to those of
equities and futures and trading patterns. Therefore,
moving
averages, RSI, historical volatility and almost every other
technical indicator can be applied just as easily to the Forex markets as they
can the stock market.
With that said, let's take a look at how Forex traders
can use a 10-day simple moving average (SMA) to gauge pullbacks. Pullbacks occur when
a trending stock pulls back against the trend, resting for one or more bars before
continuing in the direction of the trend. From September
'05 to November '05 the U.S. Dollar held a consistent, long term rally against
the Yen (USDJPY), when the Dollar continued to find support at the 10-day SMA
due to a short-term oversold condition. Such a consistent, patterned trade gives
traders numerous opportunities to buy on pullbacks to the SMA, which would give
trend traders a better buy-in price. The rally started in the beginning of
September as price broke above the 10-day SMA and closed above for a few days in
a row. As we count them, USDJPY made five pullbacks to the 10-day SMA after starting the rally. Looking at the chart,
you'll see five separate opportunities to get a better price to catch the move up.
So when to exit? Some might say, "Exit when price closes back below
the SMA." That might work well, except for the fact that price repeatedly
closed beneath the MA, only to set up classic reversal bars as the pullback
resumed the trend. Looking at the chart below, we see that the major reversal at
the end of the rally occurred after price closed under the SMA for two straight
days, not just one. There are many potential ways to enter and exit these
pullbacks. We recommend that you plot the 10-day SMA on your own charts and
determine which approaches work best for you.
Here is another example of GBPUSD running pullbacks as the
price continues in an uptrend.
Try using pullbacks to the
10-day simple moving average to get a better price in an uptrend. The 10-day SMA
is a relatively short-term indicator, but price support can be found there,
giving traders a great point of reference when trying to optimize a pullback
trade.
John Patrick Lee
Associate Editor
johnl@tradingmarkets.com
