“I am using a wonderful strategy, but I have to constantly monitor the market in order not to miss a trade.” “Ah! I missed a trade again.” “According to my strategy, it looks like there may be a trade setup soon, but I have a movie date in the next hour. What should I do?”
Do these scenarios sound familiar to you?
Wouldn’t it be nice to have a strategy that actually prompts you when momentum of the market has switched to a new trend? In fact, the beauty of the ﬁfth element strategy is that it tells you ahead of time when the entry price will be.
This is the third and ﬁnal trend strategy in this segment. Let’s ﬁnd out what’s so special about it.
The ﬁfth element strategy works with the hourly (H1) or 4-hourly (H4) chart. This means that each candle on the chart represents 1 hour or 4 hours of price movement respectively.
We use this indicator for this strategy:
Moving average convergence divergence (MACD) with default settings:
a. Fast EMA: 12
b. Slow EMA: 26
c. MACD SMA: 9
d. Apply to close.
This strategy is suitable for all currency pairs listed on the broker’s platform, especially the seven major currency pairs of:
The MACD histogram indicates the direction and momentum of the market. When the MACD histogram switches from negative to positive, this indicates a possible upward shift in momentum. We wait for ﬁve positive bars on the histogram to conﬁrm the momentum before entering a long trade on the ﬁfth bar. No prizes for guessing why the name of this strategy
is called the ﬁfth element!
When the MACD histogram switches from positive to negative, this indicates a possible downward shift in momentum. We wait for ﬁve negative bars of the histogram to conﬁrm the momentum before entering a short trade on the ﬁfth bar.
We use the AUD/USD on the H4 time frame to illustrate a long trade. Here are the steps to execute the ﬁfth element strategy for long:
1. Wait for the MACD histogram to go from negative (<0) to positive (>0). (See Figure 8.18.)
2. Wait for four positive bars to form on the histogram before going long on the opening candle of the ﬁfth histogram. (See Figure 8.19.)
3. Set the stop loss at the last low of the histogram.
4. The trade will have two proﬁt targets with risk to reward ratios of 1:1 and 1:2 respectively. (See Figure 8.20.)
From the long example in Figure 8.21:
Entry price = 1.0300
Stop loss = 1.0150
Proﬁt target 1 =1.0450
Proﬁt target 2 = 1.0600
The risk for this trade is 150 pips, and the reward is 300 pips if both targets are hit. The risk to reward ratio is 1:2, which yields a tidy 6% return if we take a 3% risk.
We use the EUR/USD on the H4 time frame to illustrate a short trade.
Here are the steps to execute the ﬁfth element strategy for short:
1. Wait for the MACD histogram to go from positive (<0) to negative (>0). (See Figure 8.22.)
2. Wait for four negative bars of the histogram before going short on the opening candle of the ﬁfth histogram. (See Figure 8.23.)
3. Set the stop loss at the last high of the histogram.
4. The trade will have two proﬁt targets with risk to reward ratios of 1:1 and 1:2 respectively. (See Figure 8.24.)
From the short example in Figure 8.25:
Entry price = 1.3400
Stop loss = 1.3547
Proﬁt target 1 = 1.3253
Proﬁt target 2 = 1.3106
The risk for this trade is 147 pips, and the reward is 294 pips if both targets are hit. The risk to reward ratio is 1:2, which yields a tidy 6% return if we take a 3% risk.
The ﬁfth element is an excellent swing trading strategy for beginners. The beauty of this strategy is that it does not require you to monitor the market for a long time. It also signals you well in advance as to when the entry of a trade is about to take place. As you know by now, the entry takes place on the ﬁfth bar after the MACD histogram switches from negative to positive
or from positive to negative.
Five bars of the histogram is equivalent to 5 hours on the H1 time frame or 20 hours on the H4 time frame. This means you need to monitor the market only on a 5-hourly basis if you are trading the H1 time frame or a 20-hourly basis if you are trading the H4 time frame. Knowing that the entry is always on the ﬁfth bar of the histogram means that you are in total
control of your time.
As an example, let’s say that you are trading the H1 time frame. You spot the MACD histogram switching from negative to positive. You glance at your watch and see that the time is 2:15 P.M.
The current bar is the ﬁrst bar, and it corresponds to the 2 P.M. candle.
What would be the likely time that you will enter the trade? The answer is 6 P.M., because that would be the start of the candle that corresponds to the ﬁfth bar of the histogram. You have ample time to catch a two-hour movie before heading home again to prepare for the trade!