How to use the Ichimoku Cloud in Forex Trading

This Japanese indicator is also known as the Ichimoku Kinko Hyo, which is translated to one look equilibrium chart. It is used to determine the potential support and resistance areas, determine the market trend, gauge momentum and identify entry levels.

 

The Ichimoku cloud consists of five plots:

1. Tenkan-Sen (Turning line)

On a daily chart, it is calculated based on the highest high and lowest low of the previous nine days. On the chart above, the turning line is the red line. It is the fastest and the most sensitive line. 

Calculation:

(9 period high + 9 period low)/2

2. Kijun-Sen (Standard line)

This is calculated with the average of the highest high and lowest low of the previous 26 periods. On the chart above, the standard line is the blue line. Notice that it also follows the price action fairly close. Consider the relationship between the Turning Line and the Standard Line as a relationship similar to a 9 day moving average and a 26 day moving average. 

Calculation:  

(26 period high + 26 period low)/2

3. Senkou Span A (Leading Span A)

This is the midpoint between the Turning Line and the Standard Line. It is plotted 26 periods in the future and forms the faster cloud.

Calculation:

(Turning Line + Standard Line)/2

4. Senkou Span B (Leading Span B)

This is the midpoint between the highest high and the lowest low for the previous 52 periods. It is plotted 26 periods in the future and forms the slower cloud boundary

Calculation:

(52 period high + 52 period low)/2

5. Chikou Span (Lagging Line)

It is calculated using today`s closing price and the default setting is plotted 26 periods behind.

How to setup the Ichimoku cloud into the trading platform

We are going to setup the Ichimoku cloud in the MT5 trading platform but the procedure is the same when using MT4. 

Step 1

Open your MT5 trading platform. Go to Insert >> Indicators>> Trend>> Ichimoku Kinko Hyo.

Step 2

Customize the period length of the turning line, standard line and the leading span B. You can also change the colour of your lines and the thickness of the lines on the same window. After completing the setup you can click OK.

Analysing the charts

After inserting the indicator in your chart you will notice patches of different colours on the chart. These patches, called clouds, are formed by the Leading Span A(Brown) and the Leading span B(White).

Bullish Signals (When to buy)

The uptrend is strengthened when the Leading Span A is rising and above the Leading span B, producing a Brown cloud. Consider making a buy decision price moves above the cloud, the clouds turn from white to brown and when price moves above the red line(turning line) and the red line crosses over the blue line from below.

Always keep in mind that the cloud is forecast 26 periods ahead. When the signal is ending, the cloud will change from brown to white. The green line will cross both the blue and red line and the red line will cross over the blue line from above.

Bearish signals (When to sell)

Consider making a sell decision price moves below the cloud, the clouds turn from brown to white and when price moves below the red line(turning line) and the red line crosses over the blue line from above. When the signal is ending, the cloud will change from white to brown. The green line will cross both the blue and red line and the red line will cross over the blue line from below.

Summary

Before executing a trade, take note of the following
1. The trend using the cloud
2. Price break
3. Crossover

This indicator can be used with other indicators. You can use it with oscillators such as the RSI to identify overbought and oversold conditions.