What Is the Ichimoku Cloud and How To Use It in Crypto Trading?
Trading Analysis

What Is the Ichimoku Cloud and How To Use It in Crypto Trading?

5m
10 months ago

Lost in the crypto jungle? Ichimoku Cloud can be your compass! With this guide, learn about this technical analysis tool that combines multiple indicators for valuable insights.

What Is the Ichimoku Cloud and How To Use It in Crypto Trading?

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The Ichimoku Cloud is probably not on your list of indicators to dive into, as it may look quite complicated at first glance. Many traders, therefore, avoid it, even though it can yield valuable insights and is not as complicated to understand and apply once you get the hang of it.

The Ichimoku Cloud (also known by its Japanese name; Ichimoku Kinko Hyo) is a technical analysis technique that combines multiple indicators in a single tool. In addition to being a tool for identifying support and resistance zones, it also helps in identifying overbought & oversold levels and predicting trend shifts. All things considered; it makes sense that the Japanese name of the indicator translates as “equilibrium chart at a glance.”

The Ichimoku Cloud has been around for a while. Its history dates back all the way to the 1930s. However, it didn’t get published until the late 1960s by Goichi Hosoda, a Japanese journalist who spent close to thirty years improving the indicator.

What Is the Ichimoku Cloud?

Ichimoku works with a few moving averages and uses them to create a cloud, predicting where support and resistance will present themselves down the line. The entire indicator is built around these five lines:
(1) The Conversion Line or Tenkan-sen: A moving average of the previous nine candlesticks.
(2) Base Line or Kijun-Sen: A moving average of the previous 26 candlesticks.
(3) Leading Span A or Senkou Span A: The moving average of the conversion and base lines, projecting 26 periods into the future.
(4) Leading Span B or Senkou Span B: A moving average of the past 52 candlesticks, projecting 26 periods into the future.
(5) Lagging Span or Chikou Span: The closing price of the current candlestick projecting 26 periods into the past.

An important note: rather than conventional moving averages that use the closing value of each candle, the Ichimoku indicator calculates moving averages using the midpoint of the previous X candlesticks. For example. The Tenkan-Sen is calculated by taking the high and low of each candle and dividing that by two.

As you can see, the area between the leading spans A and B has been colored depending on which of the two is above the other. The cloud is green when the leading span A is above the span B, and red when it is the other way around. This colored space is referred to as the Kumo Cloud, which is a unique feature of the Ichimoku system. After all, the cloud is using 26 candlesticks, giving it unique forecasting insights.

How To Use the Ichimoku Cloud in Trading?

With five lines and a cloud to look at, this might seem daunting at first. However, it looks more complicated than it is. The indicator produces two main types of signals: momentum and trend-following.

Trend-Following

Let’s look at the trend-following signals first! To keep it simple, traders use the color of the cloud and its position relative to price as signals. When Bitcoin trades above a green cloud, the trend is considered bullish, and traders seek to buy when the price corrects into the cloud. In these scenarios, the leading span A can act as support or resistance.

Another trend-following tool is the lagging span (Chikou Span), which can help confirm trends and spot potential trend reversals. Usually, the Chikou Span moving above the market is considered a confirmation of a bullish trend, whereas it is seen as bearish when it moves below the market.

Momentum

When it comes to momentum, these signals are derived from the baseline (Kijun-Sen), conversion line (Tenkan-Sen) and market prices. When either, or both the conversion line and market prices move above the baseline, it produces a bullish momentum signal. Contrarily, when the conversion line and/or market price move below the baseline, it signals a bearish momentum. These crossings between the conversion and baselines are referred to as TK crosses – short for the Tenkan-Kijun cross.

All the above signals should not be taken at face value. Even when only using the Ichimoku indicator, signals that go against the overarching trend have a decent likelihood of being a misleading or false signal. Essentially, bullish Ichimoku signals ideally are to be accompanied by a green cloud and bearish signals should ideally have a red cloud to match it.

The Ichimoku cloud has seen most of its use on the higher time frames, as the indicator was optimized for daily charts. Generally speaking, the intraday charts, therefore, result in a lower success rate when trading with the Ichimoku cloud.

Ichimoku Settings for Crypto Trading

As mentioned, Hosada developed and optimized the indicator for the daily chart. Another important caveat is that he developed this indicator for trading the Japanese stock market, which, at that time, operated from Monday through Saturday.

Therefore, the usual settings (9, 26 and 52) are based on six days a week. The number nine represents a week and a half, whereas 26 and 52 represent the business days in one and two months, respectively. As this is no longer accurate in both the stock market and in crypto trading, different traders use different settings.

Many crypto traders, therefore, use (10, 30 and 60) instead of the original settings to reflect the 24/7 nature of crypto markets. Some wonder whether this is an effective way of adapting the system, and, therefore, it is best to experiment with it yourself and see what works for you.

Closing Thoughts

All in all, the Ichimoku Cloud is a great charting tool that is – contrary to what it looks like at first glance – relatively easy to use. With this indicator, traders require very little additional analysis to make trading decisions. This makes sense, as Hosada dedicated over a third of his life to developing this indicator.

Also Read: What Is Confluence and Why Is It Important in Crypto Trading?

Writer’s Disclaimer: This article is based on my limited knowledge and experience. It has been written for educational purposes. It should not be construed as advice in any shape or form. Please do your own research.

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