The Alligator is another technical analysis tool invented by Bill Williams. It is a moving average-based indicator which consists of three moving averages, which are usually coloured as follows and use descriptive alligator references to help the trader better understand setups:
- Green – this represents the alligator’s mouth. It is a 5-period smoothed moving average, moved forward (or displaced) three periods to the future.
- Red – this represents the alligator’s teeth. It is an 8-period smoothed moving average, displaced five periods to the future.
- Yellow – this represents the alligator’s jaws. It is a 13-period smoothed moving average, displaced eight periods to the future.
These three moving averages, and how they are interacting, describe the alligator in various states. When the alligator is ‘sleeping’ the lines are intertwined and there is too much uncertainty as to which way the market will move. However, once the alligator awakes, begins to ‘eat’ and the lines open up, there is an opportunity to trade in the direction of the trend. Finally, after a nice full meal, the alligator begins to think about a rest and the lines start to cross over again - time to exit your position. After a time, the pattern repeats; the longer the alligator ‘sleeps’, the ‘hungrier’ it gets. Although the analogy may seem funny at first, experienced traders will recognise the repeating pattern of trending and non-trending markets that Bill Williams is describing with his indicator.
The Alligator Indicator employs three moving averages and distinct phases or states so we have classified it as advanced. As with all technical analysis, the more familiar you become with tools the easier they are to use and understand. As it employs moving averages, which are one of the most popular and consistent methods for capturing trends, we believe that many traders will find it useful. However, although it can also be used to exit trades, there are perhaps easier indicators or oscillators to help you when the time comes to close a position. The Alligator Indicator will never be 100% correct. False signals can occur, but it is a useful visual indicator and its positive signals are potentially consistent enough to give a forex trader an ‘edge’.