One of the most versatile indicators in technical analysis is the Ichimoku Cloud. This indicator may look a little intimidating at the first glance. But it is actually quite easy to use. Ichimoku Cloud can be used for understanding the price direction, dynamic support and resistance levels, or even trade signals. Let’s learn how.
What is Ichimoku Cloud?
Ichimoku Kinko Hyo or “one look equilibrium chart” was developed by Goichi Hosoda, a journalist, in 1969. Ichimoku Cloud consists of five lines. Among the five, the distance between two of them is filled in, making a cloud-like appearance. Most traders focus on this ‘cloud’ and consider it the dominant factor. The figure below shows the various components of Ichimoku Cloud.
- The blue line is Tenkan-Sen (Conversion Line). It’s the midpoint of the last nine price bars: [(9-period high + 9-period low)/2].
- The brown line is Kijun-sen (Base Line). It’s the midpoint of the last 26 price bars: [(26-period high + 26-period low)/2].
- The dark green line is Senkou Span A (Leading Span A). It’s the midpoint of the above two lines: [(Conversion Line + Base Line)/2]. This value is plotted 26 periods into the future.
- The red line is Senkou Span B (Leading Span B). It’s the midpoint of the last 52 price bars: [(52-period high + 52-period low)/2]. This value is plotted 26 periods into the future.
- The light green line is the Chickou Span (Lagging Span), and will always lag behind the price; it’s the most recent price, plotted 26 periods back.
- The Cloud (Kumo), the most prominent feature, is formed by the Leading Span A (dark green) and Leading Span B (red).
How To Identify Trend Using Ichimoku Cloud
Trend identification is quite easy with the help of Ichimoku Cloud.
- Uptrend: When prices are above the Cloud, the trend is said to be up.
- Downtrend: When prices are below the Cloud, the trend is said to be down.
- Flat: When prices are in the Cloud, the trend is said to be flat.
- Uptrend Reinforced: When the Leading Span A (dark green line) is rising and is above the Leading Span B (red line), the uptrend is said to be strengthened. This scenario produces a green Cloud.
- Downtrend Reinforced: When the Leading Span A (dark green line) is falling and is below the Leading Span B (red line), the downtrend is said to be reinforced. This scenario produces a red Cloud.
Ichimoku Cloud as Dynamic Support and Resistance
Since the Cloud is shifted forward 26 days, it also provides an insight into the future support or resistance and presents entry opportunities into the trend.
- Support: When the stock is in an uptrend, the cloud acts as a support level. The price will often bounce off the cloud during pullbacks before resuming the uptrend.
- Resistance: When the stock is in an uptrend, the cloud acts as a resistance level. The price will often retrace to the cloud and then continue lower.
How To Use Ichimoku Cloud For Trading?
Traders make use of Ichimoku cloud in the following ways.
- If the Price moves above Cloud
- If the cloud turns from red to green
- If the price moves above the Base Line
- If the Conversion Line moves above the Base Line
- During a strong uptrend (price above cloud and Span A is above Span B), if the Conversion line falls below the Base line and then rallies back above it.
- If the Price moves below Cloud
- If the cloud turns from green to red
- If the price moves below the Base Line
- If the Conversion Line moves below the Base Line
- During a strong downtrend, (price below cloud and Span A is below Span B), if the Conversion line rallies above Base line and then drops back below it.
The figure below shows how to use Ichimoku cloud for identifying bullish and bearish signals.