4 most common indicators
Starting off your trading journey, you may come across different methods for trading. Whether it is manual, copy and automated trading or following trading signals, it’s up to you to follow the most appropriate investment style according to your strategy. The same applies to the markets you choose to trade – forex, stocks, indices, securities, you name it!
Focusing more on the “traditional” way of trading, where you shape up your own strategy and create your unique investment profile, you may often fall in a loop of overcomplicating the whole process and beefing up your technical analysis with more and more indicators and other tools. But forget not – sometimes less is more and this totally applies to trading as well. Keeping things as simple as possible allows for quicker reactions and less stress. So, let’s dive in the most popular technical indicators used when trading the financial markets to provide you with sell and buy signals.
Before we start, indicators can be categorised in four types:
- Trend indicators provide information on the direction the market is moving and show if there is a trend. They are also called oscillators, because they show an oscillation in terms of moving between highs and lows like a wave. As trend indicators are classified the Moving Averages, the Moving Average Convergence Divergence (MACD) etc.
- Momentum indicators signal the strength of a trend and provide traders with information regarding the occurrence of a reversal. They are most useful in picking out price tops and bottoms. Such indicators are, among others, the Relative Strength Index (RSI) and the Average Directional Index (ADX).
- Volume indicators show how much the volume changes over a period of time, as signified by their name. They are useful because when prices change, the volume can signal how strong the move is. On-Balance Volume (OBV) is one of the most widely-used indicators that falls under this category.
- Volatility indicators, our last category, include all indicators that signal how much prices change during a certain period of time. Volatility is a very important ingredient in the markets, and the higher the volatility the bigger the price moves.
As we can see, indicators are important because they give traders an idea of where the market is moving and where prices might go. Potential profits can be made in both bullish and bearish markets so don’t get too attached to the direction – the price and the fact that it’s moving is all that matters.
Without further ado, let’s see the top 4 most used indicators when trading on foreign exchange pairs or other global markets.
1. Moving Averages
Moving Averages show price data via a single flowing line, creating a “smoother” representation of price fluctuations. The line represents the average price for an instrument over a period of time. Traders can choose their preferred moving average based on the time frame they choose to trade. For investors and long-term traders, the 50-, 100- and 200-day simple moving average are deemed to be good choices for their technical analyses.
But how to use a moving average technical indicator? There are several ways; traders can first look at its angle. If it is moving horizontally for a good amount of time, it signals a ranging price. If it’s more angled up, there is possibly an uptrend underway.
Another way of utilising moving averages are crossovers. For example, if you have a 200- and a 50-day moving average on a chart, when the latter crosses above the first, it gives you a buy signal. On the other hand, when the 50-day drops below the 200-day moving average, you get a sell signal. In general, when a price goes above a moving average, it gives a buy signal, and when it drops below this technical indicator, a sell signal occurs.
Remember though – moving averages do not predict. They act as a signal of how prices are moving over a period of time.
2. Moving Average Convergence Divergence (MACD)
The MACD is a trend technical indicator, which fluctuates above and below zero and consists of a fast line, a slow line and a histogram. Traders using the MACD look at which side of zero the indicator’s lines are on the histogram created below their chart. If they are above zero for a continuous period of time, the trend is likely up and buy signals may occur. On the other hand, when the lines fall below zero, the trend is likely down, and a sell signal occurs.
The MACD’s fast and slow lines also provide sell and buy signals. When the fast line crosses through and above the slow line, we get a buy signal. Similarly, when the fast line crosses through and below the slow line, a sell signal occurs.
3. Relative Strength Index (RSI)
Falling in the oscillator’s category, the RSI shows movement that is contained between zero and 100. For example, if the long-term trend of a stock is up, a buy signal may occur when the RSI moves below 50 and then back above it, resulting in a pullback in price.
In general, readings over 70 indicate that a market is being overbought, while readings below 30 show the exact opposite. The general idea of the RSI is for traders to pick tops and bottoms and enter the market when the trend is reversing.
4. On-Balance Volume (OBV)
The OBV combines a plethora of volume information and compiles it into a one-line indicator. Specifically, when an instrument's price is rising, the OBV will be rising as well. On the other hand, a falling price will result in a falling OBV. In cases where the OBV is rising but the price isn't, it is likely that the latter will follow the OBV and start rising.
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