Alligator is a strategy based on the Bill Williams indicator of the same name with the addition of filters to enter the market. Bill Williams himself used it as part of the Trading Chaos theory, but the indicator itself can be useful for spotting market trend and thus, several modifications of trend trading strategies were created based upon the Alligator principles.
What is the Alligator indicator?
An alligator is a trend trading tool that uses three moving averages to indicate market conditions. The difference from 3 moving averages with different periods is that in this indicator, they are also shifted horizontally relative to each other. Depending on the period, the lines are called jaws, teeth, and lips.
Depending on the position of the lines, the state of the market can be determined and with the help of additional filters, trading opportunities can be identified.
The market is divided into several phases:
- The Alligator is asleep – the lines are intertwined and have no slope; when the Alligator lines are flat, no trend trading is conducted as the market is deemed to be ranging.
- The alligator yawns – the lines line up in order, their angle of inclination increases. This occurs at the beginning of an emerging trend movement.
- The Alligator goes hunting – the phase of a confident trend, the lines are arranged in ascending order;
- The Alligator falls asleep – the hunt is over; the predator is full. The lines of moving averages converge; the trend fades away; at this time, the profit is fixed for previously opened positions. It ends with a flat, after which the cycle repeats.
How to trade with the Alligator indicator?
In any trending strategy, the Alligator indicator is used as the basis to determine trend direction. Entry points are formed at the stage of the emergence of a new trend movement or during pullbacks; the trader can choose additional filters to determine trading signals. This can include oscillators such as Stochastics, RSI and CCI to help identify market lows and highs.
Consider the delay while working with the Alligator indicator, the trader will not be able to take a trend movement from start to finish 100% of the time. The traders might miss the first wave due to this delay of the signal. The trend has already begun, the chart is adjusting, and the Alligator lines have just started to diverge.
We can verify the following conditions before trading:
- The Alligator indicates the end of the extended period; the lines have diverged. Prior to this, they intersected and did not have a slope. I prefer to take into operation the signals formed after leaving the flat zone when trend trading. Situations when the downward movement changes sharply to the opposite and vice versa, I would ignore.
- Alligator gives a signal with a delay; therefore, to enter the market according to this strategy will be possible only after the first corrective movement.
- Place the stop loss behind the correctional extreme or take it out of the Alligator lines (conservative option).
- There are no clear recommendations on profit-taking; you can set several TPs, for example, at a distance of 1, 2, and 3 stops from the entry point. The next method is to close the position manually at the end of the trend movement. Another option for tracking a position is to trail a trade by moving the stop along the most robust line of the Alligator indicator. You should of course set stop loss and take profits according to your money managament principles. I would always try to ensure that I only take trades which present a favourable risk to reward ratio.
- As for the working timeframe, formally, the system is applicable for any period. But I find it undesirable to go below H4 – the number of false signals is increased on lower timeframes from my experience. It also means less time spent chart watching.
- If you do decide to trade on lower timeframes, you may enter a filter in the form of a long term moving average with a period of 233. If the chart is above this MA, you could give priority to buy trades, if below this MA, you may look for sell trades.
Alligator indicator trading strategy
In this strategy, the Alligator indicator is used without additional filters. The concept of trading does not change – we are looking for entry points on the continuation of the movement, the direction of which is determined using Alligator.
When analyzing the market:
- Wait for the indicator lines to diverge, skip the first trend wave;
- The correctional movement continues to the area between moving averages with periods of 8 and 16.
- We conclude a deal only after the chart leaves this zone in the direction of the trend. In a rising market, the candle closes above the moving average with a period of 8. After that, a deal is made to buy with the stop at a recent local low. In a falling market, we work according to mirror rules.
- Place the first take profit at the level of the last trend extremum, then either use a trailing stop or set take-offs at a distance of 2-3 x Stop Loss from the entry point.
If, after the correction is completed, there is no update of the trend extreme, move the stop-loss to breakeven. Similar situations arise before the price enters into the consolidation zone.
Alligator indicator conclusion
The Alligator strategy on the Forex and stock market is a classic trend trading indicator used by many traders for many years. Bill Williams worked with this tool in the stock market, but the practice has proven that Alligator is applicable to other markets.
Conveniently, this indicator is already the basis of the trading strategy. Alligator shows both the direction of the trend and the zone of the possible end of the correction. Traders can choose to filter and find entry points according to their own market analysis.
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