The moving average bounce is one of the most popular trading strategies in FOREX. The strategy is generally easy to understand and very simple to set up on the price charts. When using this moving average strategy you should look for three things.
- Price moving away from the EMA line
- A price retracement towards the EMA line
- An upward break/price rejection
When trading the bounce strategy, we use the exponential moving average or EMA. We wait for the price to fall towards the EMA and then to make a sudden movement away from it. This is what is called price rejection. It is then that we place our corresponding trade.
This 4H USD/JPY chart shows an example of using the EMA bounce. In the areas highlighted in red, you can see price retracing to test the EMA line after moving away from it before. It takes a whole of three retracements before the price is able to rally and break the EMA line to change direction. Ideally, if you were to trade this opportunity, then you would have placed sells at the areas where the red circles are, right when the price indicated that it was rejecting the upward movement and would continue down.
In this very chart, we can also observe a buying opportunity. We can see where price finally break above the EMA line (area in pink) and move into an uptrend. Price retraces and tests the EMA line twice at the areas circled in blue. This would be a great place to buy. Then at the third test of the EMA line, price breaks below the EMA line once again (at the area in yellow) and we once again have a downtrend.
Details to Remember
- When price moves above the EMA then we are in an uptrend
- When price moves below the EMA we are in a downtrend
- The most popular EMA that traders use the bounce strategy is 20.
- We only look to open a trade position when a retracement takes place on either the uptrend or the downtrend
- We only open a buy position if the price does not close below the EMA line (ie. break the line) if we are in an uptrend.
- We do not open a sell position if the price closes above the EMA line in a downtrend.
- Trading the EMA bounce can be done across all time frames.
- It can also be used in combination with other strategies as well (like candlestick signals.)
- It is best used in a trending market. There may be difficulties when trying to use this strategy when the market is ranging.
- It is still important to set your stop loss and take profit lines. For this, we generally put the S/L below the low of the signal candle that you are using to enter a buy trade. For a sell, we put the S/L above the high of the signal candle. You can set your take profit levels based on general support and resistance levels.