Simple Heiken-Ashi Forex Trading Strategy

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Simple Heiken-Ashi Forex Trading Strategy

A few centuries ago, back in the mid 1700’s, the Japanese have developed a charting method that revolutionized trading. This came to be known as the Japanese candlesticks. It was so effective that even now, the Japanese candlestick method of charting has become the preferred method of charting prices by many traders, institutional and retail traders alike.

Fast forward a few centuries to the present, the Japanese are at it again, innovating and developing further what is already very good.

The Heiken-Ashi candles technique, translated as “average bar” in Japanese, is a derivative of the original Japanese candlesticks, which as the name implies, takes into account the average prices.

To some traders who profess on price action and candle stick patterns, this might be another glittery, shiny distraction that sparkles. This because it doesn’t show the usual candlestick patterns since the open and the close has already been averaged out. You wouldn’t see your favorite pinbars, engulfing patterns, marubozus and haramis with this type of chart, patterns which have been statistically proven to work, patterns which are vital to some trading strategies. If your strategy is highly dependent on these patterns, then this might not be the right charting method for you.

However, to the right trader, this could be revolutionary. If we are to forgo something as effective as candlestick patterns, then what we should be getting out of this Heiken-Ashi candles should be worth our while. Well, it could be. For one, it helps us define the short-term trend more clearly. This to me is worth a lot. Trading with the trend, is so important, I can’t stress it enough. Secondly, it allows a trader to easily and methodically assess when a trend has reversed or resumed. This is identified as the candles change colors. Again, this is worth so much. Knowing whether we are entering at the beginning of a trend or at the end of it is so important. You wouldn’t want to be trading when the trend is about to end.

A regular Japanese candlestick chart would look like this.

Some traders who are well equipped in trading naked charts would easily identify where the trend is going, when it pauses, and when it is about to resume. But all this is in hindsight. We could argue that we could easily identify where the direction of the trend is, but systematically identifying when the trend pauses and resumes is the hard part. Of all the contractions and minor whipsaws that we are seeing in the chart, how would we know when it will resume if don’t have the benefit of hindsight? And this very important because it is our entry point.

The Heiken-Ashi chart on the other hand, looks like this.

You would notice that the colors don’t change as easily as the regular Japanese candlesticks. This because of the effect of the averaging of the opens and closes. This allows the trader to easily identify short-term trend direction rather easily. It also, shows traders where the trend has paused and resumed. Sure, it is not perfect, but at least we have something we can work on with.

The Setup: A Simple Entry Setup Using Heiken-Ashi Candles

As said earlier, the Heiken-Ashi candles, although somewhat slightly better for some, is still not perfect. To help improve our stats, we will make use of the 50 EMA as a mid-term trend filter. We would be better off trading if the short-term and mid-term trends are in sync.

Also, although Heiken-Ashi candles does show when and where trends resume, still there many false signals out there, especially on the lower timeframes. To lessen these false signals, we will make use of pending stop entry orders so that we could only enter the market when price breaks either our high or low, depending on our setup.

Buy Entry:

  • Price should be above the 50 EMA
  • Allow the candle to turn red to identify market contractions
  • As soon as the candle turns back to green place a pending Stop Entry Order at the high of the candle
  • Note: If the Stop Entry Order has not been triggered yet and the Heiken-Ashi candle turns red, cancel the pending entry order, to avoid false signals.

Stop Loss: A few pips below the entry candle.

Exit: Close the trade as soon as the candle turns red again.

Below is the rundown of the possible setups on the same chart above. Some pending buy stop entries were not triggered since price didn’t break the high of the signal candle prior to the Heiken-Ashi candle turning red.

Sell Entry:

  • Price should be below the 50 EMA
  • Allow the candle to turn green to identify market contractions
  • As soon as the candle turns back to red place a pending Stop Entry Order at the low of the candle
  • Note: If the Stop Entry Order has not been triggered yet and the Heiken-Ashi candle turns green, cancel the pending entry order, to avoid false signals.

Stop Loss: A few pips above the entry candle.

Exit: Close the trade as soon as the candle turns green again.

Again, I will show the rundown of possible signals generated in this chart to show you when it worked, and when it didn’t.

If you would notice on the chart, the profitable trades had relatively higher gains as compared to the manually closed losing trade and the trade which should have been profitable if it were not stopped out or there a wild reversal didn’t occur. This would positive Reward-Risk Ratio would still have made the strategy possible in this chart, even if there were equal wins and losses. Also, it is important to take note that wild reversal could occur, breaking trends rather quickly with a single candle. This is why stop losses and proper trade management should be practiced.

Conclusion

The Heiken-Ashi chart is a good tool to use to improve trend riding setups, and even mean reversion setups. However, it is not the Holy Grail. There would still be losing trades. In fact, there could possibly be no Holy Grails in trading, since we could never predict the future 100%. This however could be a profitable strategy if done right.

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