The moving average bounce trading system looks past short-term ups and downs to find the general direction of a stock. It follows the "bounces" to find opportunities to make a winning trade as a stock moves back and forth in a trending direction.
A trader using this method watches for certain occurrences on a trading chart, then trades the instrument as it moves away from, reverses, and then bounces off the moving average line. Learn more about how the moving average bounce works and how to use it.
What Is the Moving Average Bounce Trading System?
Stock prices naturally swing up and down over the course of a day (or longer period). But these swings tend to stay within a certain range and thus create a general upward or downward trend.
The moving average bounce trading system uses a short-term timeframe and a single exponential moving average to give slightly more weight to more recent price movements. This allows a trader to observe where the stock is moving and time trades with bounces as they bump against the average trade line. This method works for long or short trades.
In a long trade, a trader purchases a stock to hold in hopes of seeing the price increase so they can make a profit on the sale. In a short trade, a trader will sell a stock anticipating that they will buy it back when the price drops, thus making a profit on the difference.
How the Moving Average Bounce System Works
Using a moving average works by removing short-term fluctuations from a chart line, demonstrating the overall direction and trend of an investment. This creates a smoother appearing price line. When the price experiences a strong move, the line will have a tendency to track back to the moving average, but then continue the original direction it was moving—it is this bounce that is used by the moving average bounce trading system.
The default trade uses a 1- to 5-minute open, high, low, and close (OHLC) bar chart and a 34-bar exponential moving average of the typical price (high, low, and close, or HLC). Both the chart timeframe and the exponential moving average length can be adjusted to suit different markets. The default trading time is when the market is most active.
How to Use the Moving Average Bounce System
This method can and should be used, exactly as presented, in whichever markets you are trading. The trade used in the below tutorial is a long trade, using one contract, a target of 10 ticks, and a stop-loss of five ticks. The target and stop-loss are options chosen by the trader based on their level of comfort for the options they are trading.
1. Open a Chart
Open a 1-minute OHLC bar chart of your market.
2. Add an Exponential Moving Average
Add a 34-bar exponential moving average of the HLC typical price (high + low + close divided by 3), also known as the HLC average.
4. Wait for Price and Moving Average Divergence
Watch the market and wait until the price has moved away from the moving average. There is no default distance the price should move, but the price bars should no longer be touching the moving average. For this example, the distance is approximately 10 ticks.
5. Wait for Price and Moving Average Convergence
Look for the price to reverse and begin heading back toward the moving average.
6. Wait for Price and Moving Average to Touch
You want the price to touch the moving average, which happens when the price trades at the current moving average price. For a long trade, the previous price bars should have been making lower lows as the price approached the moving average, and for a short trade, the previous price bars should have been making higher highs as the price approached the moving average.
There is no specific number of bars that need to make consecutive lower lows or higher highs, but some traders use at least three bars. In this chart, the price touches the moving average on the fourth bar to make a consecutive lower low.
7. Enter Your Trade
Enter your trade when the high (or low) of the first price bar that fails to make a new low (or high) is broken. For entries into a long trade, follow these steps:
- Price bars make lower lows.
- Price bar touches the moving average.
- Subsequent price bar fails to make a new low.
- Subsequent price bar breaks the high of the previous price bar.
If you are going to enter a short trade:
- Price bars make higher highs.
- Price bar touches the moving average.
- Subsequent price bar fails to make a new high.
- Subsequent price bar breaks the low of the previous price bar.
In the trade shown in this chart, the bar that failed to make a new low is shown in white, and the entry is shown by the arrow. The entry would be $1.2995, with a target of $1.3005, and a stop loss of $1.2990 (ticks of 10 and five).
There is no default order type for the moving average bounce trade entry, but for some markets, traders recommend a limit order.
As soon as your entry order has been filled, make sure that your trading software has placed your target and stop-loss orders, or place them manually if necessary. There is no default order type for either the target or stop loss, but for the most markets, the minimum should be a limit order for the target and a stop order for the stop loss.
8. Wait for Your Trade to Exit
Wait for the price to trade at your target or at your stop loss, and for either your target or stop-loss order to get filled. The moving average bounce trade can take anywhere from a few minutes to a couple of hours to reach your target or stop loss, and the trade does not use any target or stop-loss adjustments (except moving the stop loss to break even at a suitable time).
The targets that are shown on the chart are at $1.3005 (10 ticks), $1.3015 (20 ticks), and $1.3025 (30 ticks), all of which were filled by this trade.
If your target order has been filled, then your trade has been a winning trade. If your stop-loss order has been filled, then your trade has been a losing trade.
9. Repeat the Trade
Repeat the trade from step four, as many times as necessary, until you reach your daily profit target or your market is no longer active.
- The moving average bounce trading system watches the ups and downs of a stock price to create an average trend line for price movement.
- Traders use this average to maximize profits by trading off the "bounces" when a stock rebounds against the average direction.
- The bounce system works for long and short sales and can be repeated throughout the day.