Apart from the basic technical analysis tools, many traders also use various trading systems. These trading systems generates the buy and sell signals. No trading system is perfect and each has its pros and cons. In this post I will discuss one such system which is based on Fibonacci numbers and exponential moving averages. This is not exactly a trading system as the exit signals can come very late. It tells you to hold the position unless you don’t get the sell signal.
Fibonacci EMA Trading System
This system uses exponential moving averages (EMA) based on Fibonacci series numbers. Why Fibonacci numbers? Because they are the magic numbers and occurs very frequently in nature and in the price charts as well. If you don’t know about Fibonacci numbers you can read the post on how to use Fibonacci numbers in trading.
We will use here 21, 34, 55 and 89 days exponential moving averages (EMA). These numbers are obtained by adding the numbers of Fibonacci series and act as a wonderful trend following indicators
Fibonacci series: 1,1,2,3,5,8,13,21,34,55,89….
This system is for short to medium term trading, so we are using here 21, 34, 55 and 89 days moving average, to minimize the probability of getting the false signals. If you want to use it for shorter term then you can use, 13, 21, 34 and 55 days EMA . You can easily setup those EMAs in your charting software
Buy when the 21 days EMA crosses above over 34, 55 and 89 days EMA
Sell when the 21 days EMA crosses below the 34, 55, and 89 days EMA
Partial Profit Booking Signals
Partially book profit when the 21 days moving average goes below the 34 days EMA, book more profit when it goes below 55 days EMA and book full profit or initiate short position when it goes below 89 days EMA in the long trade.
Similarly in the short side trade book partial profit when the 21 days EMA goes above the 34 days EMA, book more profit when it goes above the 55 days EMA and book full when it goes above 89 days EMA.
Let us now check the performance of this system.
The chart of Lupin, the system gave buy signal and partial profit booking signal.
Tech Mahindra chart I took personal position in this stock from those signals and still holding it
Chart of Maruti showing the buy and sell signals
As you can observe from the charts above that this system gives excellent results in trending stocks but not so good results in range bound stocks. You can refine it for range bound stocks by using shorter EMAs. Another problem with this system is that the exit signals are not generated at the exact top, and this is obvious as this system is for short and medium term trading. You can employ other technical analysis tools to predict the tops and bottoms in case you want to make early exit.