How to create a trend following strategy? These 5 big tips will come in handy.

Trend following strategies are highly dependent on market momentum. Traders try to take advantage of large price movements by identifying and following established trends, but how do you quickly identify such trends and trade accordingly? So our advice would be to look no further than these 5 technical indicators.

1: Moving Average:

what’s this: Moving average trading system is an important trend following method. It displays price data in a smooth line, indicating the direction of the trend. There are two types of moving averages: Simple Moving Average (SMA) and Exponential Moving Average (EMA). SMA estimates the average price over a specific period, while EMA gives more importance to recent prices.

Confirm the trend: Traders often use long-term moving averages to identify long-term trends and short-term fluctuations.

Continuation or reversal of trend: When the price crosses the moving average and remains above it, it indicates that the trend may continue. If the price falls below the moving average, it indicates the possibility of a trend reversal.

2: Relative Power Index:

what’s this: The Relative Strength Index (RSI) is a momentum oscillator that tracks the speed and volatility of price movements. It ranges between 0 and 100. A reading above 70 (upper band) indicates overbought and a reading below 30 (lower band) indicates oversold.

Confirm the trend: Trend followers often use these criteria to predict potential reversals. However, during a strong trend the RSI may remain in overbought or oversold territory for a long period of time, indicating the strength of the underlying trend. So, don’t rely on RSI alone to decide entry and exit.

3: Moving Average Convergence Divergence:

what’s this: Moving Average Convergence Divergence (MACD) measures the difference between two moving averages. It highlights both the strength and momentum of the trend.

signal: Its signal line and MACD rising above zero indicate bullish momentum (bearish trend), while its signal line and MACD falling below zero indicate bearish momentum (bearish trend).

4: Super Trend:

what’s this: Super Trend is a trend following indicator known for its simplicity and efficiency. It combines price movement and volatility to give buy and sell signals.

Trend Ride: If the price is above the super trend line, it indicates a bullish trend and traders can consider buying. Conversely, if the price is below the supertrend line, it may indicate a bearish trend, based on which a sell decision can be made.

5: Average Directional Index (ADX):

what’s this: Directional Movement Index (DMI) and Average Directional Index (ADX) are an effective way to measure the strength and direction of trends. ADX measures the strength of a trend without indicating its direction. It ranges from 0 to 100. A level above 25 indicates a strong trend.

Confirm the trend: The DMI, which consists of two lines – positive directional indicator (+DI) and negative directional indicator (-DI), helps determine the direction of the trend. When +DI crosses -DI, ​​it indicates an uptrend. Conversely, when –DI crosses +DI, it indicates a downward trend. This combination provides the trader with a comprehensive view of the strength and direction of market trends.

Implementing a trend following strategy

Combinations of these cues can increase their effectiveness. For example, you can identify a trend using MACD and then check its momentum using RSI. Adding a moving average to the ADX/DMI combo can help identify trend intensity and direction.

Remember these things:

No single indicator is complete by itself: Combine these indicators with your trading style for a more comprehensive view of the market.
Backtesting and Optimization: Optimize your entry and exit criteria using your chosen indicators based on historical data.
Keep an eye on risk management: You can use stop loss orders and adjust and increase your position size as you see fit. Effective risk management can protect your investment.

In short, trend-following indicators can provide a structured approach to trading by reducing the impact of emotional and subjective decisions. Traders can use these leading indicators to more accurately identify and capitalize on market trends.

(The author is a director of Upstocks. The views expressed in the article are his personal and not endorsed by ABPLive.com. Please consult your financial advisor before investing in the stock market.)

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