АМА indicator (Adaptive Moving Average)
АМА indicator review
They differ in the principle of price averaging for a certain period of time. Moving averages are popular, and many binary options strategies have been created based on them, but they have some disadvantages. One of the main drawbacks is that on short timeframes the indicators give a lot of false signals, and on long timeframes their signals are delayed, they give data on entering the trade after the trend has already turned and the prices are not the most profitable.
AMA indicator (Adaptive Moving Average, fig. 1) was developed by Perry Kaufmann, an outstanding trading practitioner and theorist, in 1995 while searching for a trend indicator for binary options that would save the moving average from the drawbacks. We can say that the indicator created by Kaufmann is an advanced version of the moving average.
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In order for the indicator to be adjusted to the market volatility, the SSC (Scaled Smoothing Constant) and ER (Effectively Ratio variable – efficiency factor, the ratio of trend direction to the market volatility) were introduced into the algorithm of its calculation. With a strong price movement ER tends to one, with a weak movement – to zero. In general, the formula, which formed the basis of AMA, is quite complex and consists of several equations.
Kaufmann managed to create an indicator, which significantly reduces the disadvantages inherent in the moving average, although it does not eliminate them completely. In addition, the AMA is the only moving average indicator that takes into account the volatility. During the futures price movement, the AMA dynamics on the chart is smoother, which allows avoiding false signals. In periods of pronounced trend AMA is more sensitive, which allows the trader to react faster to changes in trends and make more accurate bets.
Because of this feature, many traders believe that it is optimal to trade with an adaptive sliding during fairly long price movements, and during short-term changes, a simple sliding can be more effective. However, compared to other types of moving averages, the AMA signals are minimally delayed on reversals and trend changes. AMA adaptive moving average is considered to be quite complicated, its application in practice requires knowledge and experience (binary options trading training).
АМА indicator in MetaTrader 5 platform
AMA is popular with traders, but is not standard for trading terminals. In MT5 terminal there are two types: Adaptive Moving Average in the section of trend indicators (fig. 2) and in the section «Examples» (fig. 3).
To install AMA in MT4, you need to download it and upload it to the list of indicators. The standard settings of the period of the adapted moving, fast and slow constants do not need to be changed, if it is supposed to trade on the intervals from M15 to H1. It is recommended to change the parameters at other intervals, but after that it is necessary to take time to test the new settings.
The AMA can be supplemented with color codes (fig. 4), for example, the red line indicates an uptrend, the blue line indicates a downtrend. The indicator line can be represented as dots. This variant of the indicator allows you to more accurately interpret the incoming signals.
АМА indicator signals
In general, the indicator of adaptive moving average gives trading signals as a simple moving average or other type of moving average crossed by the price line. When the AMA line is directed upwards and the price crosses its line upwards, it is a signal to buy. If an adaptive slider is directed down and the price crosses it from top to bottom, it is a sell signal. If the AMA signals and prices are opposite, it is a signal to a trader to wait for a position. In the application of moving in strategies, their breakthrough is not a signal to immediately open a position. We should wait for the price to stabilize at a new level.
The AMA is complemented by other indicators and oscillators for binary options, such as Momentum, OBV, RSI, when the price moves sideways. But even with a strong trend movement, there can be a lot of false signals and loss-making deals. Kaufman, the developer of the indicator, believed that the AMA gives quite a lot of false signals and introduced an additional filtration method, which takes into account the values of the AMA for adjacent periods to the period that is analyzed by the trader. This has made the indicator formula even more complicated. But of course, traders do not have to go into the mathematical description of the indicator. To increase the efficiency of the adaptive moving indicator, as a rule, additional indicators and oscillators are used.
Trading strategies based on АМА indicator
There are not many strategies that would focus on the application of adaptive moving indicators. The main method of forecasting price dynamics by AMA signals is simple: if the price is higher than the moving one, it can be a signal to buy. The strategy is suitable for any MA indicator, but with AMA the result may be the best.
Strategies that use several moving averages – two or three, of different types and with different settings – are popular in the market. In particular, such a strategy should have MA with shorter and longer time periods. Signals to open deals will be the crossing of MA. For example, you can use Simple Moving Average (fig. 5) with shorter periods and AMAs with longer periods.
When implementing trading strategies with the use of the adaptive moving average indicator, it is necessary to take into account such conditions as prevailing price trends, features of value dynamics – impulse or smoothed changes, volatility of the asset during the day. If the volatility is high, the AMA period is set from 7 to 14 depending on the time frame. SSC smoothing constant is based on constant – fast and slow averaging. In case of high volatility, the averaging of the slow constant should be set not more than 45, the averaging of the fast one – from 4 to 7.
For Forex trading it is not necessary to change the set parameters, it is not recommended to trade some currency pairs at all. Usually the AMA parameters change in the direction of increasing sensitivity to price changes. In any case, after changing the settings, it is necessary to test the operation of the tool.
Despite the fact that the AMA generates more accurate signals, there will still be false signals. They should be filtered with the help of oscillators, for example, accumulation-distribution of A/D, RSI relative strength index, Chaikin oscillator and adaptive Stochastic. Most of the strategies are built on the joint use of AMA with these oscillators. The optimal timeframe for implementing trading strategies with AMA is 1H.
The interaction with Chaikin oscillator (fig. 6) is one of the popular strategies for adaptive sliding strategies. Chaikin oscillator allows you to set the dynamics of trading volumes for a certain period of time. Most often it is used to predict divergences between price dynamics and indicator indicators. But in a strategy with the AMA the oscillator is needed to predict overbought or oversold levels.
With AMA in the form of colored lines (for example, on MT4) the blue line will be the signal to open a deal to increase the price, the price should be higher than the moving one, Chaikin oscillator shows oversold, its curve is directed upwards. The price indicators are lower than AMA, the color of the line is red, the curve of Chaikin oscillator is directed downwards and shows possible overbought – signals to open deals to reduce the price.
The effectiveness of the strategy depends on how well the trader has determined the necessary settings for the adaptive moving indicator. This can take a lot of time and testing the methodology in the demo mode of the terminal. But if the parameters are correct, the strategy is considered to be very effective. The strategy «AMA + Chaikin Oscillator» is not simple and not recommended for beginners.
Another well-known strategy is «AMA + MACD». The popular MACD oscillator (Moving Average Convergence/Divergence, fig. 7) is used here to check the strength and direction of the trend and helps to identify reversal points. MACD is based on moving averages and is a good complement to the AMA.
In a strategy, if the AMA shows an uptrend and the MACD builds a histogram above zero, it can be a buy signal. If the AMA shows a downtrend and the MACD builds a histogram below the mark, it confirms the beginning of the downtrend and can be a sell signal. This strategy is more effective if color versions of indicators are used. One more strategy simultaneously applies Adaptive Moving Average (AMA), Moving Average (MA) and Parabolic SAR (PSAR). The signal to buy will be the crossing of the AMA from the bottom upwards MA, PSAR is under the chart. The Sell signal will be the AMA crossing from top to bottom MA, PSAR is above the chart.
Adaptive Moving Average AMA is one of the most effective trading tools, which can be an alternative to more traditional indicators. But its application requires some experience. Application of AMA is more expedient during the periods of a pronounced trend. This tool, in comparison with other moving indicators, gives signals and false signals among them less quickly, but it does not mean that the AMA is completely rid of them and it should be taken into account. AMA is not a standard tool for trading terminals. On the chart it can be presented in different versions, which make it more efficient. Despite the fact that it is possible to use one indicator of adaptive moving average for trading, it is more effective with the support of other indicators and oscillators, in this case it can become the main profitable strategy of the trader.