Candle formation testing the interest of traders in trend continuation is commonly known as test candle. Strong response to the test signalize trend health and usually marks the beginning of rapid price movement in the direction the trend.
Success rate of this forex formation rises substantially when confirmed by support /resistance and traded as a bounce. Drawing trend lines and S/R zones is excellent tool that should be mastered by any successful forex strader. However, it might get problematic to test the strategy based on subjectively drawn trendlines.
Another option is to use bollinger bands. This forex indicator is proficient in tunnel identification. Drawing both tunnel boundaries, adapting to market volatility and thus enabling us to focus on trade itself.
Indicators used in forex strategy
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Bollinger bands (default period and settings 20). BB will provide us with tunnel. Tunnel will be interpreted as standard support resistance zones. We will trade long on bottom BB and short on upper BB. Test formation will confirm the bounce and let us trade in the direction of trend.
SMA (smoothed moving average) 200. SMA will help us to separate uptrend from downtrend, by simply looking at central BB and comparing its position to SMA.
MACD (moving average convergence divergence) 24,50,18. It will be used to simply determine a price for position closing in profit.
Additionally testing formation will be used (explained below).
Apply all the indicators in 1 Hour chart of any major currency pair.
Forex strategy rules
SELL:
Central BB trending below SMA 200. Downtrend is in progress. We will enter only short trades.
Test candle. Narrow bullish candle with extremely tall upper wick. Candle has closed near its low. Candle wick is at least twice the size of candle body.
Test response candle: Wide bearish candle, closing below the low of the test candle.
Pause candle: Sometimes, pause candle separates test candle and response candle. Signal remains valid as long as it does not surpass high of the test candle. Pause candle is not necessary for signal to be valid.
Test formation must touch upper BB for signal to be valid !
Enter short on test response candle close.
Stop loss: SL is placed above the high of testing formation.
Take profit: MACD histogram is negative. Fast doted MACD line closes below histogram close.
BUY:
Central BB trending above SMA 200. Uptrend is in progress. We will enter only long trades.
Test candle. Narrow bearish candle with extremely tall bottom wick. Candle has closed near its high. Candle wick is at least twice the size of candle body.
Test response candle: Wide bullish candle, closing above the high of the test candle.
Pause candle: Sometimes, pause candle separates test candle and response candle. Signal remains valid as long as it does not surpass low of the test candle. Pause candle is not necessary for signal to be valid.
Test formation must touch upper BB for signal to be valid !
Enter long on test response candle close.
Stop loss: SL is placed below the low of testing formation.
Take profit: MACD histogram is positive. Fast doted MACD line closes above histogram close.
