Strategy – Rainbow Pattern Strategy
Once you’ve spent some time studying the market and have some experience, you can consider using the rainbow pattern strategy to increase the chances of successful trading. The strategy combines simple signals to make sophisticated predictions about the price.
The rainbow pattern strategy involves using many moving averages with different periods, and each of them is identified by a different color (hence the name “rainbow pattern”).
Moving averages that use many periods don’t react to price changes as quickly as moving averages with fewer periods.
When there’s a strong movement, the moving averages will be stocked from slowest to fastest in the trend direction.
The fastest-moving average will be closest to the price; the second-fastest will be the second closest, and so on.
When you see that multiple moving averages are stacked in the right way, you will know that the price is making a strong movement in one direction. This is the right time to invest.
While you can use as many moving averages as you like, most traders use three.
If the shortest moving average is above the medium one, which is above the longest moving average, bet on the prices rising. If the shortest average is below the medium average, which is below the longest moving average, you must bet on the prices falling.
While you can set the moving averages to have any number of periods, consider doubling the number of periods in each moving average.
The ratio guarantees that the averages are just different enough to create a helpful and accurate signal. Using the most popular values, 5, 10, and 15 is the right way to go if you’re a beginner. You will see the same opportunities that other traders do, allowing you to tune into the inside knowledge the rest of the market has.
When your moving averages are stacked in the right order, you can:
- Invest immediately: Most signals are created right after the final moving average aligns itself the right way. While there is a lot of potential for profit, the risk is just as high.
- Wait for one period: Waiting for a period to see if the moving averages remain in the same order will bring about a lot of security.
- Wait for a couple of periods: You can play it very safe and wait for two or more periods to confirm the signal. But keep in mind that waiting too long will reduce the accuracy of your signal. By that time, the market may also begin to turn the other way. If you do decide to wait, make sure it’s no longer than three periods.
