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The Alligator indicator was popularized by Bill Williams in 1995. The Alligator indicator operates under the premise that markets, stocks, and other securities trend 15% to 30% of the time, and trade in sideways ranges the other 70% to 85% of the time. The Alligator indicator consists of moving averages that incorporate fractal geometry and nonlinear dynamics. This might sound terrifying, but using the indicator is quite simple. 

Three lines comprise the Alligator indicator: the Alligator’s Jaw (blue line), the Alligator’s Teeth (red line), and the Alligator’s Lips (green line). The indicator uses a smoothed moving average calculated with an SMA to begin. Three moving averages are then used, placed at five, eight, and thirteen periods, which constitute the Lips, Teeth, and Jaw. The lips reorient the quickest, while the teeth move slower, and the jaw moves slowest. The Jaws, Teeth, and Lips open and close in reaction to progressing trends and trading ranges. A convergence-divergence relationship is administered to produce signals.

The formula for the Alligator indicator:

MEDIAN PRICE = (HIGH + LOW) / 2

ALLIGATORS JAW = SMMA (MEDIAN PRICE, 13, 8)

ALLIGATORS TEETH = SMMA (MEDIAN PRICE, 8, 5)

ALLIGATORS LIPS = SMMA (MEDIAN PRICE, 5, 3)

Where:

MEDIAN PRICE — median price

HIGH — the highest price of the session

LOW — the lowest price of the session

SMMA (A, B, C) — Smoothed Moving Average. A is the parameter for data to be smoothed, B is the smoothing period, C is the move to the future.

  • The blue line (Alligator’s Jaw) is the 13-period Smoothed Moving Average, displaced 8 sessions to the right.
  • Red Line (Alligator’s Teeth) is the 8-period Smoothed Moving Average, displaced 5 sessions to the right.
  • Green Line (Alligator’s Lips) is the 5-period Smoothed Moving Average, displaced 3 sessions to the right.

Signals produced by the indicator are based on a crossover method. When the Lips intersect and cross below the Teeth and Jaw, a sell signal is generated. Conversely, when the Lips intersect and cross above the Teeth and Jaw, a buy signal is generated. The descending cross is referred to as the alligator “sleeping”, and the ascending cross as the alligator “awakening”. When the alligator is sleeping, the three lines will trend tightly, and it is advocated that you avoid trading under these conditions. When the alligator wakes up, the lips will cross the Jaw and Teeth, and a bullish or bearish signal will be produced. When the lips intersect the Jaw and Teeth in an upward direction, it is considered an awakening bullish alligator. When the lips intersect the Jaw and Teeth in a downward direction, it is considered an awakening bearish alligator. After waking, if a candlestick closes above or below the Lips, Jaw, and Teeth, contingent on whether the alligator was bullishly or bearishly awakened, it is characterized as “alligator eating”.

For an awakened bullish alligator, if an individual candlestick closes above the three lines, upcoming bullishness is symbolized. For an awakened bearish alligator, if an individual candlestick closes below the three lines, upcoming bearishness is symbolized. When the three lines are spread trending higher or lower, you should maintain current long or short positions. When the three lines converge to become narrow and reorient in a horizontal direction, the immediate trend may be coming to cessation, and you should take profit or adjust your positions. The aforementioned scenario is attributed to the alligator being “sated.” To effectively trade while implementing the indicator, you should open a long position when the alligator is bullishly awakened and a candlestick closes above the three Lips, Jaw, and Teeth. You should close your position contingent on your exit strategy, or wait for the Lips to cross below the Jaws and Teeth. You should go short when the alligator is bearishly awakened and a candlestick closes below the Lips, Jaw, and Teeth. You should close your position contingent on your exit strategy, or wait for the Lips to cross above the Jaw and Teeth. A potential breakout to the downside is signaled when the Lips cross below the Jaw and Teeth and a candle closes below all three lines. A potential breakout to the upside is signaled when the Lips cross above the Jaw and Teeth, and a candle closes above all three lines.

Figure 6.1

Alligator Indicator

Figure 6.1 depicts a price movement sequence in which the Alligator indicator can be employed to trade profitably. Prices are initially range bound and the Alligator is characterized as sleeping; therefore, you should refrain from opening any positions. 

Prices institute an uptrend, the lips trend above the jaw and teeth, and the teeth above the jaw, and sessions begin to close above the three moving averages. Traditional interpretation calls this a buy signal. The alligator becomes “sated” as the uptrend stalls. 

Figure 6.2

Alligator Indicator

Figure 1.2 shows transient phases of the Alligator indicator sleeping, awakening, and eating. 

Figure 6.3

Alligator Indicator Sideways Market

(NYSE: F)

Figure 6.3 depicts the Alligator indicator in a range bound market. Under these conditions, the indicator is notorious for producing frequent whipsaws, and you may find this to impede employing the indicator successfully. You could require a trend strength indicator, such as ADX, to be 20-25 or greater for an Alligator signal to be considered actionable.

You can also wait for definable range to be validly penetrated to the upside or downside. When the range is violated sufficiently you can enter into a long or short position when the alligator awakens. When implementing this strategy it is advocated that you open a long position if the range is broken to the upside and the alligator bullishly awakens, or, open a short position if the range is broken to the downside and the alligator bearishly awakens.

Practical Use – Straight Talk

The indicator is fallible, but useful when implemented within it’s scope. If the market trends approximately 15-30% of the time, and the indicator is designed to catch trends and stay in them, most positions are signals are probably false.

However, the indicator shouldn’t be used to achieve a high win-rate, sorry options traders. The idea is to enter a position when a signal is generated, close quickly when you’re wrong, and maximize profits when you’re correct – a trend institutes. 

A key feature of the indicator: it keeps you in a trend, and it never misses a trend. Of course, the primary disadvantage is false signals. Most signals do not precede a robust breakout. 

Backtesting an Alligator Strategy

Entry Criteria (Long)

  1. lips > teeth 
  2. lips > jaw 
  3. teeth > jaw
  4. close > lips 
  5. close > jaw
  6. close > teeth
  7. close > sma200

If these criteria are satisfied we will enter and remain in a long position. 

Exit criteria (Long)

  1. Lips cross under teeth

Entry Criteria (Short)

  1. lips < teeth
  2. lips < jaw
  3. teeth < jaw
  4. close < lips
  5. close < jaw 
  6. close < teeth 
  7. close < sma200

If these conditions are satisfied we enter and remain in a short position.

Exit Criteria (Short)

  1. Lips cross over teeth

We aren’t implementing distinct money management criteria with this system. 

Figure 1.4 Backtesting All Historical Price Data – Alligator indicator

Backtesting the Alligator Indicator

Figure 1.4 Out-of-Sample Data (1986 – 2006) – Alligator Indicator

Backtesting

Figure 1.5 In-Sample Data (2006 – 2022) – Alligator Indicator

Backtesting

Figure 1.6 Previous 5 Years of Price Data (2017 – 2022) – Alligator Indicator

Backtesting

Our Alligator system incorporated a low win-rate, but achieved a respectable % gain for the average winning position.

* ADX, or a similar trend strength indicator, can be used to diminish the probability of false signals.

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