How to use the alligator indicator

Wouldn’t it be great to know when the market was trending, and when it was stuck? That way we’d know exactly when to apply our trend-following systems … and when to dust down our range-bound trading methods.

Unfortunately, trending and range-bound markets are dead easy to spot after the event, but very difficult to judge at the time.

Unless you’re using the Alligator indicator …

The alligator indicator is a pimped-up version of multiple moving averages – and can be applied to your charts in just one click.

It takes the form of three lines …

• Green: a 5-period smoothed moving average, shifted by 3 periods to the right (this represents our alligator’s lips)
• Red: an 8-period smoothed moving average, shifted by 5 periods to the right (this represents the alligator’s teeth)
• Blue: a 13-period smoothed moving average, shifted by 8 periods to the right (this represents the alligator’s jaws)

When our three lines are close to each other, and intertwined, this means that the alligator is ‘sleeping’ – i.e. there is no trend in action, and we should avoid taking any trend-following positions.

As the green line (the lips) cross the red, and then the blue lines, the alligator is ‘waking’ up – this is where we should become alert to trend-following signals.

Next, as the price moves through and away from the three lines, and the three lines move away from each other – the alligator is in full ‘feeding’ mode. This is where the trend-following trader should be collecting his or her profits.

As the price moves back towards our three lines, and the lines themselves re-cross, our alligator is sated, and returns to a sleeping state.

It’s a great image of hungry traders ‘feeding’ off market moves – and makes the alligator indicator hard to resist.

But does it actually work?

The Alligator indicator runs into the same problem that any moving-average indicator does – that it’s lagging. By the time our alligator is in a full feeding frenzy … you’ve probably missed a lot of the move.

For that reason, the alligator doesn’t work so well on its own. Instead, it’s a tool that can work really well as an extra filter in a trend-following method.

It nicely breaks the market into these cycles of ‘sleeping’ … ‘waking’ … ‘feeding’ … which can be really helpful in judging when we should jump into a trade, or when we should hesitate and sit on our hands.

But there’s an alligator tool that I think is even more useful …

The ‘Gator Oscillator’ is (as its name suggests) a short-hand switch for all the information that’s given in the alligator indicator.

Rather than muddle up our charts with three extra lines, the Gator Oscillator is a histogram that sits below your chart, like this …

In addition to spotting when the lips, jaws and teeth move against each other, the gator indicator is also watching the price move away from these lines, and back towards them. This means that it gives us an excellent warning when trends are fizzling out.

If the histogram is green both above and below the zero level, this represents a ‘feeding’ stage. If it’s red both sides of the centre line, then it represents a ‘sleeping’ stage. Where red bars creep in, following a feeding run, this is a warning that the trend is running out of steam and our alligator is sated. And when green bars creep in following a sleeping phase, we should be alert to our alligator waking up.

While the gator oscillator isn’t a buy/sell indicator in its own right, it can be a powerful way to filter out weaker trades, ensuring you’re only entering the markets at the best moments.

I’d recommend using it on longer timeframes, where the cyclical nature of the markets comes into play most clearly. That way, this simple on-off switch for when trends are building or fading could be just the thing to ensure you’re in the market for the feeding frenzy, and not just catching the scraps when it’s all over.
 

To enjoy more content and get it faster Follow @TradersBulletin

Related posts:

My Alligator Strategy for Swing Trading Bad cable management, XY problems and Alligator solutions