Introduction
The strategy that is described in this article is a strategy that can be used by intraday as well as swing traders. This strategy combines a moving average cross with a confirmation signal on the MACD indicator, left in its default settings. The strategy can work on 1-hour, 4-hour and daily charts. However, higher time frame charts deliver greater profit potential, but fewer setups. Let us review the strategy and see what it is all about.
Indicators
The indicators deployed on the chart for this strategy include the following:
- The 5-period Exponential Moving Average (5EMA) which is set to a red colour.
- The 15-period Simple Moving Average (15 SMA), for which a blue colour is applied to the moving average line.
- The MACD indicator, left in its default settings of 12, 26, 9.
Strategy Description
The aim of the strategy is to allow the faster moving average (5EMA) to cross the slower moving average (15SMA), and to have the MACD provide a supporting signal which can be used to target a set number of pips at any given time. The MACD signal used is to allow the histogram bars sit on the red line (long trade) after we have seen a cross of the 5EMA above the 15SMA, or to allow the histogram bars be resisted at the red line when the 5EMA crosses the 15SMA to the south.
The MACD signal means that if the histogram bars are above the red line, this is a sign of a bullish reversal. But if the histogram bars are below the red line in the indicator window, this is a bearish signal.
Please note that the use of longer time frame charts allows the trader to get higher profit potential, but there can be many fake setups. However, these can be minimized by ensuring that any MACD histogram bars used for the confirmation must be those which follow after some very long bars indeed, giving a signal that a reversal is underway. If short MACD histogram bars are used, it increases the chance of trade failure. This will be illustrated in the description of the trade setups, with chart examples to show.
Long Trade Setup
Here are the parameters that must be obeyed for a lond trade setup to be valid.
A) Allow the 5EMA to cross above the 15SMA, so that the 5EMA is now located above the 15SMA line.
B) Check to see if the MACD histogram bars are now above the red line. If the histogram bars have just bounced off the red line, this is the best situation as this is the earliest possible confirmation signal.
C) Open the trade at the opening price of the next candle which opens with the next histogram bar.
D) Set the stop loss a few pips below the low of the candle which is located at the crossover point of the moving averages. Set the Take Profit area using a previous resistance, or you can close the trade when the moving averages are approaching each other to perform a crossover in the reverse direction. Also, if the candlesticks have turned bearish and are threatening to break below the 5EMA line, you can exit the trade. Some profits would have been made at that time.
Here is a daily chart with multiple long entry setups:
MACD Strategy with 5EMA/15SMA Cross: Long Trade Setup
There are 5 different long trade setups that occurred between November 2016 and December 2017 on the EURGBP. The trade with the smallest profit potential is trade number 5, and yet even this would have yielded about 114 pips in all. The trade with the largest profit potential is trade number 3, with 272 pips at the 1st point or 356 pips at the second point.
Here is an explanation. The profit targets are set using previous resistance areas. This trade exit rule is applied strictly. We can see that the various crossover points of the 5EMA (red line) over the 15SMA (blue line), and that the MACD histogram bars were all bouncing off the red lines or had already bounced off the red lines in the indicator window, filtering the trade signals (see vertical grid lines for alignment of the crossover with the histogram bars).
Short Trade Setup
Here are the parameters that must be obeyed for a short trade setup to be valid.
A) Allow the 5EMA to cross below the 15SMA, so that the 5EMA is now located below the 15SMA line.
B) Check to see if the MACD histogram bars are now below the red dotted line in the indicator window. If the histogram bars have just been capped by the red dotted MACD line, this is the best situation as this is the earliest possible confirmation signal.
C) Open the SELL trade at the opening price of the next candle which opens with the next histogram bar.
D) Set the stop loss a few pips above the low of the candle which is located at the crossover point of the moving averages. Set the Take Profit area using a previous support. Alternatively, you can close the trade when the moving averages are approaching each other to perform a crossover in the reverse direction. Also, if the candlesticks have turned bullish and are threatening to break above the 5EMA line, you can exit the trade.
Here is a chart displaying the short trade setups.
MACD Strategy with 5EMA/15SMA Cross: Short Trade Setup
This is another daily chart, but in this case, we have shown three valid setups and three invalid setups (in pink). The reason for the three invalid setups was that the MACD histogram bars were already above the red dotted lines in the negative territory. Therefore, MACD confirmation did not occur. Without MACD confirmation, there is no trade.
The three valid setups showed that the crossover of the 5EMA below the 15SMA was accompanied by the correct MACD confirmation, which is that the histogram bars were capped by the dotted red line (a bearish signal). The profit targets were set strictly following previous support areas (boxed areas in orange).
Closing Note
Please open all trades on the candles immediately following the crossover signals. Also, follow the Take Profit settings strictly and as much as possible, stick to higher time frame charts to produce greater profit potential for your trades.