The moving average is often used to determine when to get into a trade based on when the trend is about to reverse from the way that it has been going. This may be the ideal moment to jump in and try to make some reasonable trades based on how the market is reacting.
A trend in the market is the general movement in the market to the upside or downside. You should think of it as the direction that the market has been moving as a whole. This is true of any given market.
For example, if you pull up the 1-hour chart of the AUD/USD and see that it has been headed south for the last 50-100 hours, then the trend in that pair is down. You may see brief moments when the pair pushed higher, but if the overall trend remains down, then you should assume that the trend for this market is down.
You don’t want to fight against it because you will just end up battling against a current that is too strong. However, you do want to use your moving average tool to see when the trend might be reversing.
Setting Your Parameters
To determine when recent price movement has potentially signalled a change in the trend of a currency, you need to set the parameters of your moving average tool to make sure you can see how the recent price action has played against longer term price action.
For example, imagine setting your moving average to parameters of 10 and 50. This means that the two lines will show what the price movement has done in the last 10 periods of time and the last 50 periods of time. The 10-period timeline will move much more sharply in tandem with the current price action, whereas the 50-period line will be a smoother average.
The point of having both working for you is to allow you to see how the recent price action (represented by the 10-period line) has compared to price action as a whole.
When looking at your chart, if you notice the price action for the 10-period line has crept up above or below the 50-period line, this is known as a crossover, and it may be the signal you need to know that a change is about to occur. It might signal the reversal of the trend that has been established in your lines up to this point.
That is important, because it may be the moment when you need to step in and place your trade (in whichever direction the end of the trend is).
As with everything else, you should probably wait at least a little while until you have some confirmation that the trend is indeed ending before you jump in and place your order. It is always better to know that the trend has ended than to assume that this is the case and be wrong.
Don’t be so anxious to get your trade out that you forget basic principles of trading that got you to where you are in the first place.
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