Trend reversal and breakout strategies are viable ways to trade the market. Although it is not the easiest way to trade the market, when done right, trend reversal and breakout strategies could be very rewarding.
Although the two strategies are quite different, these types of strategies have a common denominator. Both strategies are high risk high reward types of strategies. In most cases, these strategies do not have a high win ratio, however, winning trades often result in huge gains. It is not uncommon to see trends that reverse to run for a very long time. Breakouts that come from a contraction phase also tend to result in trends that produce huge gains. Gains could run as high as 3 to 5 times the risk placed on each trade. This is because in most cases, the next support or resistance level coming from a reversal or a breakout is quite far from the entry point.
Aroon AMA Trend Forex Trading Strategy is a strategy that aims catch these huge trends which leads to huge gains. It is a trend reversal type of strategy based on a confluence of two high probability indicators.
AMA Indicator
The AMA indicator stands for Adaptive Moving Average.
This type of moving average is modified in order to create more stability in its movements, as opposed to being too sensitive to price movements.
Although sensitive moving averages do have their advantages, it also has a glaring disadvantage. Most moving averages that are set to be sensitive to price movements tend to move strongly and produce false signals during minor price spikes.
To counter this disadvantage, many smoothing mechanisms have been applied to moving averages. The result is a moving average that does not tend to create too much false signals but are too lagging.
The AMA indicator strikes the balance by creating a low sensitivity moving average but has a significantly lesser lag compared to most moving averages that has a smoothing mechanism.
This indicator is a modified moving average indicator, which prints dots along its moving average line to indicate trend direction. Sky blue dots indicate a bullish trend while gold dots indicate a bearish trend.
Aroon Oscillator
The Aroon Oscillator is a momentum-based oscillator which helps traders identify the direction of the trend.
It is quite unique because instead of measuring the magnitude of price movements, it measures the number of periods since the last high and low. This is a very logical approach since a trend is considered a trend when it is either constantly making higher highs and lows for an uptrend or lower highs and lows for a downtrend.
This indicator is composed of two systems – Aroon Up and Aroon Down. The two figures would range between zero and a 100. The Aroon Oscillator is then computed by subtracting the Aroon Up from the Aroon Down. The result is a figure that could range between -100 and 100. Higher figures indicate an uptrend while lower figures indicate a downtrend.
This indicator then displays the results as an oscillator. Positive bars that are greater than 50 are colored dodger blue indicating an uptrend. Negative bars that are lesser than -50 are colored red indicating a down trend. Figures that fall between the -50 and 50 are colored white indicating a weak trend.
Trading Strategy
This strategy provides entry signals based on a confluence between the AMA indicator signal and the Aroon Oscillator trend.
Entry signals on the AMA indicator are simply based on the changing of the color of the dots, which indicates a trend reversal.
On the Aroon Oscillator, trade entries are based on a trend signal as indicated by the color of the Aroon Oscillator bars.
While this strategy could be used based on the confluence of entry signals alone, it would work better if used in confluence with a breakout from a congestion area or a breakdown or breakout from a support or resistance line.
Indicators:
- AMA
- PeriodAMA: 18
- Aroon_Oscillator_v1
- AroodPeriod: 15
Preferred Time Frames: 15-minutes, 30-minutes, 1-hour, 4-hour and daily charts
Currency Pairs: major and minor pairs
Trading Session: Tokyo, London and New York session
Buy Trade Setup
Entry
- Price should close above the AMA line.
- The AMA dots should change to sky blue indicating a probable bullish trend reversal.
- The Aroon Oscillator should change to dodger blue indicating a probable bullish trend reversal.
- These bullish trend reversal signals should be closely aligned.
- Enter a buy order on the confirmation of the conditions above.
Stop Loss
- Set the stop loss on the fractal below the entry candle.
Exit
- Close the trade as soon as the AMA dots change to gold.
- Close the trade as soon as the Aroon Oscillator changes to red.
Sell Trade Setup
Entry
- Price should close below the AMA line.
- The AMA dots should change to gold indicating a probable bearish trend reversal.
- The Aroon Oscillator should change to red indicating a probable bearish trend reversal.
- These bearish trend reversal signals should be closely aligned.
- Enter a sell order on the confirmation of the conditions above.
Stop Loss
- Set the stop loss on the fractal above the entry candle.
Exit
- Close the trade as soon as the AMA dots change to sky blue.
- Close the trade as soon as the Aroon Oscillator changes to dodger blue.
Conclusion
This strategy is one which allows for a very high reward-risk ratio. Winning trades could result in yields as high 5 times the risk placed on the trade.
Although this strategy has a very high reward-risk ratio, it does seem to have some losing trades every now and then. However, if traded properly, the winning trades could easily cover up for the losing trades, plus some profits.
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