A rainbow indicator is a technical indicator that draws ten simple moving average lines of different colors like a rainbow to determine the trend direction.
It is a beginner-friendly indicator, making it easy for beginner traders to determine the direction of market trends. Finding bullish and bearish trends is an essential first step in technical analysis. So if you’re failing to identify the trend correctly, then you won’t be able to do a high-probability technical analysis of any currency pairs. But the Rainbow indicator makes it simple and super easy to find the bullish and bearish trends.
I will explain complete guidance about the rainbow indicator, so read the article thoroughly without missing any step.
There are no complex formulas behind the rainbow indicator, but it consists of 10 moving averages line. Each simple moving average is the SMA of the previous SMA.
Confusing?? Let me explain to you in detail.
All the SMA lines consist of different colors and become a rainbow-like shape on the candlestick chart.
The rainbow indicator only uses the Formula of the simple moving average, that is:
SMA Formula = Sum of close prices of N period candlesticks/number of periods
You can also manually calculate the SMA value using the above Formula. This Formula gives rise to a dynamic line on the price chart, which we call the moving average line.
To make it clearer and easier to understand, I will explain the calculations of this indicator with an example if the closing price of the previous and current candlestick of the EURUSD currency pair is and Then the moving average price on the current candlestick will be:
SMA = +/2
This was the Formula for SMA 1.
To calculate the SMA 2 (simple moving average line 2)
SMA 2 = SMA 1 at current candlestick + SMA 1 of previous candlestick/2
In the same way, we will calculate the other eight simple moving average lines, which will make a rainbow indicator.
The rainbow indicator’s ten moving average lines act as dynamic support and resistance. Price always bounces from the support and resistance. In the same way, these moving average lines work.
When the rainbow indicator plots the lines below the candlesticks, it means these lines will act as support. Price will bounce in the bullish direction from the simple moving average lines.
If the rainbow indicator plots SMA lines above the candlesticks, they will act as resistance. Price will bounce from the resistance in the bearish direction.
The working method of the rainbow indicator is similar to a simple moving average line on the candlestick chart.
When the price crosses the SMA lines from the bottom, then a bullish trend starts. On the other hand, when the price crosses the SMA lines from the top, a bearish trend starts.
However, the best use of this indicator is to take profit levels. For example, if you open a sell trade in a currency pair, break even your trade and wait until the price completely crossover the rainbow indicator in the bullish direction. In this way, you can get ultra-high-risk reward trades. It will also keep you away from price consolidations.
I highly recommend that beginners and intermediate traders use the rainbow indicator in their trading strategies. You should not wholly rely on the rainbow indicator but use it as a confluence with other trading strategies.
When you add more than one technical tool to make a trading strategy, the winning probability of that strategy increases—after then, following the proper risk management and overcoming your trading psychology using a simple system will make you a profitable trader.
Learn supply and demand from the cheat sheet here
Get access the Supply & Demand Indicator here
Understand the fair value gap here
Use the set and forget strategy here
Follow the risk management plan here
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