Forex Technical Analysis Indicators Based on Moving Averages

In this article we will examine some of the mathematical tools based on moving average applied in technical analysis.

Envelope

The envelope model includes plotting two bands around a short term closing price (typically a 5-day one) based moving average, by adding and subtracting a specific percentage rate. For foreign currencies it is usually recommended that this percentage is around 2%.

Forex traders interpret as a buying signal the intersection of the underlying chart price from above down by the envelope chart.

Bollinger Bands

Bollinger bands represent another mathematical tool in technical analysis. Bollinger bands consist of a middle simple moving average (typically a 20-day one) band and two bands plotted at two standard deviations above and below the middle band. Those standard deviations are mathematical formulas which measure volatility and show how the currency price can be extended around its "true value".

The bands resemble an envelope model that is expanding and contracting. The moments of considerable contractions are viewed as a signal that the volatility is low. On the other hand, when the bands are far apart, this is viewed as a signal of high volatility in price. Additionally, the sequence of two top formations, one being outside the band and the other inside it, is also considered a signal. Forex traders tend to sell a position when the signal appears above the band. On the other hand, forex traders buy a position when it appears below the band.

Median Price

An additional mathematical tool used in technical analysis is the median price indicator chart. The arithmetic averages of the high and low for the prices prevalent in the trade period are used in order to diagram the median price chart. In order to get an idea of the degree and direction of the close prices deviation from the average prices during the period under consideration, one should examine the superposition of the indicator chart and the underlying price chart.

Average True Range

In order to get information on the degree of the volatility forex traders should refer to the Average True Range indicator, which is also known just as ATR. A reversal can be expected if the values of the volatility are of a minimal or maximal value, meaning located in the extremes.

Moving Average Convergence Divergence (MACD)

Another application of the moving averages is viewed in the Convergence-Divergence of Moving Averages oscillator, also known as MACD. It is constructed on a moving average that has been exponentially smoothed.

The MACD combines two charts plotted against a zero line. The first chart is the difference of two EMA, where the first one should be short-term and the second one long-term. The second chart is the "shortest" EMA.

The zero line shows the number of times when the values of the moving averages are equal. A move above zero line would be interpreted by forex traders as a buy sign, while a cross below the zero line could be interpreted as a sell signal.

Additionally, when the short-term average line crosses the long-term average line, forex traders receive further trading signals. For example, they should buy a position when the intersection is of an upward direction. On the other hand, they should sell a position when the crossover is of a downward direction.

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