How to ride market trends: Moving averages simplified for Forex traders

‍What is trend trading?

‍

Trend trading is one of the fundamental approaches to trading the forex markets. At its core, it's about identifying the direction in which an asset's price is moving and making trades that align with that direction. Rather than trying to predict market tops and bottoms, trend traders focus on capturing the meat of the move in the middle.

‍

Why do Forex traders follow trends?

‍

Traders often gravitate towards trend trading in the forex market because currency pairs tend to develop strong, persistent trends driven by underlying economic factors and interest rate differentials between countries. These trends can last for weeks or months, creating opportunities to capture significant price movements whilst following the path of least resistance. 

‍

Additionally, the forex market's high liquidity helps ensure smoother trend development compared to less liquid markets, making it easier to enter and exit positions at desired price levels.

‍

Moving averages in trading: how to identify trends

‍

A trend, simply put, is the general direction in which a market is moving. We can break this down into three main categories:

‍

• Uptrend: A series of higher highs and higher lows
• Downtrend: A series of lower highs and lower lows
• Sideways trend: Price moving horizontally with no clear direction

‍

When looking at your forex charts, you'll want to focus on the bigger picture rather than getting caught up in small price fluctuations that often occur during the 24-hour forex trading day. Think of major currency pairs like EUR/USD – whilst 5-minute charts might show constant back-and-forth movement as London hands over to New York, what matters is the overall directional bias across sessions. 

‍

This may involve looking at a longer timeframe candle chart, such as the daily or weekly, to better capture the broader trend driven by interest rate differentials and economic fundamentals, rather than being distracted by short-term volatility from news releases or session-specific trading patterns.

‍

Using moving averages to follow market trends

‍

Moving averages help smooth out price action by calculating the average price over a specific period. They're particularly useful because they filter out market noise and make trends easier to spot.

‍

There are two main types you'll encounter:

‍

Simple Moving Average (SMA)

‍

• Calculates the straightforward average of prices over a period
• More stable and slower to react to price changes
• Particularly useful for longer-term trend identification

‍

Exponential Moving Average (EMA)

• Gives more weight to recent prices
• Responds more quickly to price changes
• Better suited for shorter-term trading

‍

When setting up your moving averages, you'll need to choose a lookback period - this is the number of periods (most commonly in days) used in the calculation. Common choices within the forex market include 20 periods for short-term trends, 50 for medium-term, and 200 for long-term trends.

‍

Spotting reversals: Moving average crossovers

‍

Moving averages can be particularly useful for identifying potential trend reversals in the forex market. Crossovers occur when different moving averages intersect, potentially signalling a trend change. The two most common signals are:

‍

Golden cross

• Occurs when a shorter-term moving average crosses above a longer-term one
• Generally considered a bullish signal
• Most commonly watched with the 50-day and 200-day moving averages

‍

Death cross

• The opposite of a golden cross
• Happens when a shorter-term moving average crosses below a longer-term one
• Often viewed as a bearish signal

‍

Direction changes and warning signs

‍

The 50-day and 200-day moving averages often act as crucial technical levels in major currency pairs like EUR/USD, GBP/USD, and USD/JPY. Here's what to watch for:

‍

Price interaction with key moving averages

‍

• When price approaches these levels in forex pairs, they often create zones of support and resistance rather than exact levels, due to the market's 24-hour nature
• A decisive break through these levels, particularly during high-liquidity sessions (London or New York), can signal a potential trend reversal
• Multiple tests of these levels by major currency pairs often create price congestion zones, making breakouts more significant when they occur

‍

Multiple moving average direction changes

‍

• In forex markets, watch for shorter-term moving averages (like the 20-period) to start changing direction first, especially during major trading sessions
• Currency pairs often show clearer direction changes during overlap periods between major forex sessions, when multiple moving averages begin shifting direction
• The steepness of moving averages can indicate trend strength - particularly important in forex where trends can persist due to interest rate differentials

‍

Divergence and momentum shifts

• Watch for currency pairs making new highs while moving averages flatten, especially during typically volatile forex sessions
• Moving averages spreading apart during major economic news releases often indicate strong trend momentum
• When a currency pair repeatedly fails to reach its moving average during retracements, particularly in pairs involving safe-haven currencies, it may signal weakening momentum

Always remember that forex markets react to economic data and central bank decisions - combine these with technical signals with awareness of fundamental factors.

‍

Trading in different market conditions

‍

The forex market goes through clear phases of high volatility and calm periods:

‍

• During major session overlaps, trends tend to be stronger
• In quieter periods (Asian session for many pairs), ranges are more common
• Consider reducing position sizes during news events when spreads can widen
• Look for shorter-term trends within range-bound conditions
• Exercise patience - forex markets trade 24/5, there's always another opportunity

‍

Risk management in Forex trading

‍

Proper risk management is crucial in forex trading, it’s important to use:

‍

1. Position sizing: Never risk more than 1-2% of your trading capital on a single currency pair
2. Stop losses: Place stops beyond key price levels, accounting for typical forex volatility
3. Risk-reward ratio: Aim for at least 1:2, but adjust based on the currency pair's average daily range
4. Correlation: Be especially aware of correlations between currency pairs to avoid overexposure to single currencies

‍

Building your Forex trend trading skills using moving averages

‍

Focus on developing these key aspects:

• Learn to identify trends across multiple timeframes, particularly important in 24-hour forex markets
• Practice with moving averages and trendlines on major currency pairs first
• Understand how different sessions affect your chosen currency pairs
• Wait for high-probability setups, especially during major trading sessions

‍

Start by practising these concepts on a free demo trading account. This allows you to experience real market conditions and develop your trading eye without risking capital. Remember that consistent forex trading comes from following your strategy and managing risk, not from trying to catch every market move.

‍

Learn more about how to trade the Forex market with our free online courses on Deriv Academy. Log in to Deriv Academy using your Deriv account email and password to get started.