The Exponential Moving Average (or EMA for short) is a type of technical indicator that’s very popular with a lot of forex traders. The reason why is because it is very good at tracking the price and indicating the current trend. Plus if you use several of these EMAs (using different periods) you can get some great trading signals, particularly when these indicators cross over.
The key is to use a short-term EMA and a longer term EMA on your price chart, wait until you get a crossover and enter a trade in the same direction as this crossover. I myself like to use the EMA (5), ie a 5 period exponential moving average, alongside an EMA (20). I will also use 50, 100 and 200 period exponential moving averages on occasions as well but the 5 and 20 period moving averages are at the heart of my trading system.
So how reliable are these EMA crossovers?
Well it all depends on which time frame you use. In general the shorter the time frame the more unreliable the trading signal, and this general rule can be applied to these crossovers as well.
For instance if you think you can generate consistent profits entering positions when the EMA (5) crosses through the EMA (20) on the 1 or 5 minute charts, then you are going to end up losing money because many of these price moves are so small that any profits will be eaten up by the spreads. Plus you will get a lot of false crossovers during the course of the average trading day.
However if you apply this method to the daily or weekly chart, for instance, or even the 4 hour chart like I do, then you get much more reliable signals. In fact if you enter a position soon after the crossover takes place, you can often bank anywhere between several hundred and several thousand pips profit.
So the point I want to make is that EMA crossovers are a great way to trade the currency markets, but only if you use a longer time frame. You don’t necessarily have to use my settings either. For example you could use 7 and 21 period moving averages or 20 and 50, for instance. The key is to experiment with different settings and time frames until you are able to come up with a profitable way of trading.
If you trade these EMA crossovers and use one or two additional indicators to filter out the very best trades, then you should have a profitable system on your hands. This is my trading system in a nutshell, and it seems to work for me.