The 5 Minute Trading Strategy

Some forex traders are extremely patient and like to wait for the perfect setup, while others need to see a move happen quickly or they will abandon their positions. These impatient souls make perfect momentum traders because they wait for the market to have enough strength to push a currency in the desired direction and ride back on the momentum in hopes of an extension move.

However, once the move shows signs of losing steam, an impatient momentum trader will also be the first to jump ship. Therefore, a true momentum strategy must have solid exit rules to protect profits while still being able to ride as much of the extension move as possible. The 5-Minute Momo Strategy does just that.

What is a Momo?

The five minute momo looks for a momentum or “momo” burst on very short term (five minute) charts. First, traders rely on two technical indicators that are available with many charting software packages and platforms: the 20-period exponential moving average (EMA) and moving average convergence divergence (MACD). EMA is chosen over the simple moving average because it places higher weight on recent movements, which is necessary for fast momentum trading.

While a moving average is used to help determine the trend, MACD histogram, which helps us measure momentum, is used as a second indicator. The settings for the MACD histogram are the defaults used in most charting platforms: EMA = 12, second EMA = 26, signal line EMA = 9, all with closing prices.

This strategy waits for a reversal trade, but only takes advantage of the setup when momentum supports the reversal enough to create a larger expansion breakout. The position is exited in two separate segments; the first half helps us lock in profits and ensure we never turn a winner into a loser and the second half lets us try to catch what could become a very big move without any risk because the stop is already after break even has been moved. Here’s how it works:

Rules for a long trade

Look for currency pairs trading below the 20-period EMA and MACD to be in negative territory. Wait for price to cross above the 20-period EMA, then check that MACD is either crossing from negative to positive or has crossed into positive territory within the last 25 minutes (five bars or less on a five minute chart ). Go long 10 pips above the 20 period EMA. For an aggressive trade, place a stop at the swing low on the five minute chart. For a conservative trade, place a stop 20 pips below the 20-period EMA. Sell ​​half of the position at entry plus the amount risked; move the stoppage on the second half to breakeven point. Trail the stop through breakeven or the 20-period EMA minus 15 pips, whichever is higher.

Rules for a short trade

See if the currency pair is trading above the 20-period EMA and MACD to be positive. Wait for the price to cross below the 20-period EMA; make sure that MACD is either in the process of crossing from positive to negative or has not crossed into negative territory more than five bars ago. Going short 10 pips below the 20-period EMA. For an aggressive trade, place stops at the swing high on a five-minute chart. For a conservative trade, place the stop 20 pips above 20-period EMA Buy back half of the position at the entry price minus the amount risked and move the stop on the second half to break even. Trail the stop through either the break-even or 20-period EMA plus 15 pips, whichever is lower.

Long Trade

Our first example above is the EUR/USD on March 16, 2006, when we see the price move above the 20-period EMA as the MACD histogram crosses above the zero line. Although there were a few instances of the price trying to move above the 20-period EMA between 1:30 PM and 2:00 PM ET, a trade was not triggered at that time because the MACD histogram was below the zero line wash.

We waited for the MACD histogram to cross the zero line, and when it did, the trade was activated at 1.2044. We enter at 1.2046 + 10 pips = 1.2056 with a stop at 1.2046 – 20 pips = 1.2026. Our first target was 1.2056 + 30 pips = 1.2084. It was activated about two and a half hours later. We exit half the position and trail the remaining half with the 20-period EMA minus 15 pips. The second half finally closes at 1.2157 at 9:35 pm ET for a total gain on the trade of 65.5 pips.

The next example (above) is USD/JPY on March 21, 2006, when we see the price moving above the 20-period EMA. As in the previous EUR/USD example, there were also a few instances where the price crossed above the 20-period EMA right before our entry point, but we did not take the trade because the MACD histogram was below the zero line .

The MACD turned first, so we waited for the price to cross the EMA by 10 pips and when it did, we entered the trade at 116.67 (EMA was at 116.57).

The math is a bit more complicated on this one. The stop is at the 20-EMA minus 20 pips or 116.57 – 20 pips = 116.37. The first target is entry plus the amount at stake, or 116.67 + (116.67- 116.37) = 116.97. It is activated five minutes later. We exit half the position and trail the remaining half with the 20-period EMA minus 15 pips. The second half finally closes at 117.07 at 6:00 pm ET for a total average profit on the trade of 35 pips. Although the profit was not as attractive as the first trade, the chart shows a clean and smooth movement indicating that price action followed our rules well.

Short Trade

On the short side, our first example is the NZD/USD on March 20, 2006 (shown below). We see the price cross below the 20-period EMA, but the MACD histogram is still positive, so we wait for it to cross below the zero line 25 minutes later. Our trade is then activated at 0.6294. Like the previous USD/JPY example, the math is a bit messy on this one because the crossing of the moving average did not occur at the same time as when MACD moved below the zero line as in our first EUR/USD example . As a result, we enter at 0.6294.

Our stop is the 20-EMA plus 20 pips. At that time, the 20-EMA was at 0.6301, so that puts our entry at 0.6291 and our stop at 0.6301 + 20 pips = 0.6321. Our first target is the entry price minus the amount risked or 0.6291 – (0.6321- 0.6291) = 0.6261. The target is hit two hours later, and the stoppage in the second half is moved to a tie. We then proceed to follow the second half of the position through the 20-period EMA plus 15 pips. The second half is then closed at 0.6262, for a total profit on the trade of 29.5 pips.

The example above is based on an opportunity that developed on March 10, 2006 in GBP/USD. In the chart below, the price crosses below the 20-period EMA and we wait for 10 minutes for the MACD histogram to move into negative territory, thereby triggering our entry order at 1.7375. Based on the rules above, once the trade is triggered, we place our stop at the 20-EMA plus 20 pips or 1.7385 + 20 = 1.7405. Our first target is the entry price minus the amount risked, or 1.7375 – (1.7405 – 1.7375) = 1.7345. It is activated shortly after.

We then proceed to follow the second half of the position through the 20-period EMA plus 15 pips. The second half of the position is finally closed at 1.7268, for a total profit on the trade of 68.5 pips. Coincidentally, the trade was also closed at the exact moment when the MACD histogram flipped into positive territory.

Momo trading failure

As you can see, the five-minute momo trade is an extremely powerful strategy for capturing momentum-based reversals. However, this does not always work, and it is important to examine an example of where it fails and to understand why it happens.

The final example of the five-minute momo trade is EUR/CHF on March 21, 2006. As seen above, the price crosses below the 20-period EMA, and we wait for 20 minutes for the MACD histogram to break into negative territory to move, we place entry order at 1.5711. We place our stop at the 20-EMA plus 20 pips or 1.5721 + 20 = 1.5741. Our first target is the entry price minus the amount risked or 1.5711 – (1.5741-1.5711) = 1.5681. The price is trading to a low of 1.5696, which is not low enough to meet our trigger. It then continues to reverse course, eventually hitting our stop, causing a total trade loss of 30 pips.

When trading the five-minute momo strategy, the most important thing to watch out for is trading ranges that are too tight or too wide. In quiet trading hours, where the price simply fluctuates around the 20-EMA, MACD histogram can flip back and forth, causing many false signals. Alternatively, if this strategy is implemented in a currency pair with a trading range that is too wide, the stop may be hit before the target is activated.

The Bottom Line

The 5-Minute Momo Strategy allows traders to take advantage of short bursts of momentum in forex pairs, while also providing solid exit rules needed to protect profits. The goal is to identify a reversal as it happens, open a position, and then rely on risk management tools—such as trailing stops—to take advantage of the move and not jump ship too soon. As with many systems based on technical indicators, results will vary depending on market conditions.