Moving Averages. Part 2: improvements and recommendations

• VFX Blog
• For beginners

Read the first part of how signals work for binary option from classic moving averages. In the second we improve the results and give recommendations for trading.

Improving the Moving Average

The use of computer technologies in the exchange activity made it possible to calculate complex algorithms aimed primarily at reducing the value of the delay. Additional smoothing is also used to further level the market "noise": double (DEMA) and triple (TEMA) exponential moving average.

Such techniques make exact binary options strategy even more sensitive. More are used by medium- and long-term traders, so we will not consider them in detail. Let's look at three options for improving the response to the current market:

Hull Moving Average (HMA)

The author is an Australian trader Alan Hull, who proposed to reduce the delay using instead of the actual value of the period price its square root. As the base average will be WMA, its system of weights adds accuracy. The figure shows an example of how both indicators work with the same periods. The picture is an example of how both indicators work with the same periods.

You can see that on the HMA chart, the trend change is defined more clearly than the standard MA. But there are problems:

• The calculation results exceed the average price values and are too close to the chart on small timeframes, which increases the number of free binary signals. MA should not work like this even if everything is good on historical data - if there is too "close" interaction increase the number of periods;

• Only HMA should not be used in strategy for binary options based on the intersection of two or more moving averages. In this case, the delay plays a positive role – different periods and types of averages work similarly to the methods of analysis of several timeframes, for example, “Three Elder Screens”. If there is a minimum delay on all instruments, this will lead to a violation of the logic of the strategy and the inevitable false signals.

Variable Index Dynamic Average (VIDYA)

All the classical algorithms use a fixed MA value smoothing for the sake of simplicity of manual calculations. For the stock market, this was correct because of the lower volatility compared to Forex and the appearance of occasional sharp impulses. This averaging does not take into account the peculiarities of currency pairs and further increases the delay and the number of false free binary signals. Dynamic averaging as in the VIDYA indicator can solve the problem.

To assess the current volatility, VIDYA includes a special Chande Momentum Oscillator (CMO) - the ratio of the total count of positive and negative price increments for a specified number of periods. The resulting absolute coefficient in the next step is applied to the EMA for the final smoothing.

For most of the trading day, the indicator moves synchronously with the corresponding EMA. But closer to the price and you can create a binary option bot with less delay. Also, the CMO calculation algorithm gives a faster transition to horizontal motion (flat) at the end of the trend. There is a time to close the position, to change trend strategy to a channel, to stay out of the market.

Kaufman's Adaptive Moving Average (KAMA)

The next modification is the moving average EMA, where the basic calculation parameter will be the "efficiency coefficient" to adjust the degree of averaging and adaptation to the current market. On a sideways move, the chart is less sensitive (like EMA with large periods). And when a new trend appears, the coefficient begins to react more actively as a "fast" EMA and give a binary options signal.

Adaptive Kaufman was developed to solve a big contradiction: on the one hand, a reaction to short-term price impulses, especially after the release of strong fundamental news, which can be falsely interpreted as a new trend. On the other hand, with too much smoothing, you can miss a good entry point.

When using other people's strategies and especially automated advisors, find out which Moving Average will apply. Trend indicators will only be a start for further analysis, the final result depends on how accurately they work.

Recommendations for use:

• We always follow the risk management system. When the moving average actively goes towards profit, beginners have excitement and a few more binary options. The market always punishes such "optimists" with a sharp reversal before the total loss of the deposit;

• The indicator only works when there is a trend. On lateral movement, free binary signals are more false, but even in such periods, MA is useful. A "corridor" of two moving averages underlies many profitable instruments, such as the Bollinger Band and other channel instruments (Envelopes, Keltner, etc.).

• All MA variants are unstable on lower timeframes, so for scalping, it is better to choose another solution, such as overbought/oversold oscillators, different price levels (Pivot Point, Murray and others) combined with tick and market volume data.

Like all technical analysis tools, Moving Average does not evaluate visual analysis data and the overall market situation. It only works at the prices of previous periods and can not give 100% correct forecast!

• It follows that you cannot configure the indicator on a price chart based solely on historical data. You cannot search for entry points where they do not exist, choosing a short period and opening at each intersection;

• Do not use one indicator in binary options strategy. MA will always be late, even if it is HMA-always look for additional confirmation or a leading signal on oscillators such as divergence.

• The indicator must be confirmed by tools that analyze the market according to other principles. Therefore, MACD or TRIX built on its basis will not be particularly effective - they will go in sync with the basic average, even with a different delay. It is recommended to track the dynamics of changes in the volume and balance of forces of Bull Power / Bear Power.

Let's summarize. Understanding why signals for binary options work, we always remember the moving average. They will be relevant for a long time, despite the growing dominance of high-frequency HFT trading. MA gives a stable profit with any deposit and level of training, it is only important to follow the rules and not to forget about money management.