Forex trading using EMAs, slow stochastic and RSI
This lesson will cover the following
- Exponential moving average crossovers
- RSI and slow stochastic
- Combining the three into a viable trading strategy
In this article, we present a fairly simple yet reliable trading strategy. It includes two exponential moving averages in conjunction with the Relative Strength Index and the Slow Stochastic Oscillator.
We will be using a 15-minute time frame, although this strategy is applicable to any other. We will use a combination of 5- and 10-period EMAs. The Relative Strength Index uses the default look-back value of 14 periods, with its overbought and oversold levels set at 75 and 25 respectively. The Slow Stochastic Oscillator uses the same overbought and oversold levels – 75 and 25 – a 14-period look-back setting, and Slow K and D periods of 3. To learn more about the Relative Strength Index and the Stochastic Oscillator variations, read the articles “Relative Strength Index” and “Stochastic Oscillator”
The entry and exit rules are quite simple and straightforward. Enter the market when the 5-period EMA crosses the 10-period EMA, RSI is above 50, and the Stochastic fast and slow lines are heading in the same direction but are not in the oversold or overbought zones. For example, if the 5-period EMA penetrates the 10-period EMA from below and moves higher, you should enter long provided the RSI is above 50 and the Stochastic lines are rising but remain below the overbought level of 75. A short entry signal is triggered in the opposite scenario.
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Once the 5-period EMA crosses back beyond the 10-period EMA and this move is confirmed by a close beyond the latter, you should close your position. You should also exit the trade if the Relative Strength Index drops below 50. The several conditions that must be met before executing a trade make this strategy a good filter for entries. However, the small-period EMAs also have a drawback: they can become choppy and generate false exit signals. The screenshot below shows both successful and failed signals.
As you can see, the first EMA crossover occurred at (1), with the Stochastic lines moving downwards while the RSI was slightly below 50. The position was exited at the confirmation of the next EMA crossover at (2). We avoided entering a long trade immediately, as the RSI was still below 50.
The next time all of our strategy’s conditions were met was at (3), and it illustrates how EMA trading systems can fail during ranging markets. We shorted below the close of bar (3), which confirmed the EMA downward crossover, but the market reversed almost immediately and stopped us out at the next bullish crossover at (4), incurring a minor loss. We decided to reverse our position because the Stochastic rebounded from the oversold level while the RSI was right at 50, and we exited at the next crossover at (5). The small gain offset our previous minor loss. At (5) we refrained from entering short because the Stochastic was already near the oversold area.
Our next entry was at the crossover at (6), followed by an exit at the crossover at (7). The last trade is another example of a failed signal during a trading range, specifically a barbed wire pattern. We entered on the first close below the bearish crossover at (8), supported by a bearish Stochastic and an RSI below 50, but the market almost immediately reversed and we were forced out at the next crossover at (9), which was also the point at which the RSI rose above 50.