Understanding Moving Average Envelopes and Moving Average Ribbon Trading Strategies in Forex

The forex market is a world of opportunities and traders can create simple trading strategies themselves to take advantage of the trading opportunities that may arise. There are many technical indicators available for Forex traders to do that, one of them being the Moving Average or MA.

Moving Average can be best described as one of the most frequently used technical indicators in the forex market, especially over the 10 to 200 periods. They are primarily used as trend indicators and to identify support and resistance levels. There are two types of MAs that are used: The Simple Moving Average and the Exponential Moving Average.

Understanding Moving Average Envelopes Trading Strategy

Moving Average Envelopes can be best described as percentage-based envelopes. They are generally set above and below the moving average. Forex traders have the option of using either a simple, weighted or exponential moving average since the type of moving average that is set does not matter.

When trading using Moving average envelopes, the best way to employ an envelope strategy is to test out different time intervals, different percentages as well as currency pairs. 

For instance, envelopes forming over a 10 to 100 day period can use bands that have a distance of 1 to 10% from the daily moving average. In case a trader is day trading, the envelopes can fall below 1%. Let us take the example of the chart below.

The above is a one-minute chart where the MA is 20 and envelopes are set at 0.05%. The percentage settings and other parameters may need to be changed on a daily basis, depending on the market volatility. Traders should thus use settings that would align his/her strategy below to the price action of the particular day. It is generally advised for traders to trade only in the presence of a strong directional bias to the price and consequently trade in that direction only. When experiencing a strong downtrend, traders should short when the price approaches the middle band and starts to drop away from it. On the other hand, if the price is in an uptrend, traders should consider purchasing when the price approaches the middle band MA and start rallying off of it.

Once a trader takes a short, a stop loss should be placed one pip above the recently formed swing high. Traders can look to exit the market when the price reaches the upper band on a long trade or the lower band in case of a short trade.

Understanding Moving Average Ribbon Trading Strategy

Traders can use the Moving Average Ribbon to create their basic forex trading strategy if there is a slow transition of a trend change and can be utilized in both directions.

The moving average ribbon was created, based on the belief that more is better in the context of plotting moving averages on a chart. It is formed by a series of exponential moving averages (usually 8 to 15) on a chart, which varies from very long-term to very short-term averages. The “ribbon” of averages thus formed, provides an indication of both the strength of the trend, as well as the trend direction. A strong trend is said to have formed when the angle of the moving averages becomes steeper, and the ribbon is widened because of greater separation between them.

In the Moving average ribbon, buy or sell signals can be likened to similar crossover signals employed in many other moving average strategies. A trader is thus advised to select the number of crossovers which they think, constitute a good trading signal.

Chart showing technical analysis

Using the Moving Average Ribbon

Many traders use an alternate strategy to provide entries that are low risk but have high-profit potential. The strategy involves catching a decisive market breakout in any direction. This phenomenon usually occurs after the market trades in a tight and narrow range for a considerable period of time. Thus, to use this strategy, the following steps can be taken.

• When the price flattens out into a sideways range and the moving averages converge closely together, traders should take note of this. The different moving average levels can come close together to form almost a single thick line as the separation between the individual moving averages become tiny.
• The next step involves bracketing the narrow trading range, thus formed, with a sell order below the low of the range and a buy order above the high or the range.
• In case a sell order is triggered, traders should place a stop level, just above the High of the range.
• In case of a buy order, however, traders should place a stop-loss, below the low of the trading range.

There are several ways of using Moving Average as a part of a trader’s forex strategy, with Moving Average Envelopes and Moving Average Ribbon strategies, being just two of them. Traders should always thus, adjust their settings to check whether the strategies they have chosen provide favorable results.