Technical trading involves reviewing charts and making decisions based on patterns and indicators. These patterns are particular shapes that candlesticks form on a chart and can give you information about where the price is likely to go next.
The majority of the technical indicator is a combination of one or more of the following factors:
- Trend indicators tell you which direction the market is moving in. Eg: Moving Average Convergence Divergence (MACD).
- Momentum indicators tell you how strong the trend is and can also tell you if a reversal is going to occur. Momentum indicators include the Relative Strength Index (RSI).
- Volume indicators tell you how volume is changing over time, how many units of the share are being bought and sold over time. This is useful because when the price changes, the volume gives an indication of how strong the move is.
- Volatility indicators tell you how much the price is changing in a given period.
The following are the best indicators and you should be aware of them:
1) Bollinger Bands
Bollinger bands are a volatility indicator. They consist of a simple moving average, and 2 lines plotted at 2 standard deviations on either side of the central moving average line. The outer lines make up the band. Generally, the bands act as dynamic support and resistance levels.
If the candles breakout below the bottom band, the move will generally continue in a downtrend. If the candles breakout above the top band, the move will generally continue in an uptrend.
2) Relative Strength Index (RSI)
This is a momentum indicator plotted on a separate scale. There’s a single line scaled from 0 to 100 that identifies overbought and oversold conditions in the market.
Readings over 70 indicate an overbought market, and readings below 30 indicate an oversold market. The whole idea behind RSI is to pick the tops and bottoms, to get into a market as the trend is reversing.
3) Moving Average Convergence Divergence (MACD)
This is a trend indicator and it consists of a fast line, slow line, and a histogram. This is a bit complex indicator, so be please pay attention.
MACD consists of the following three indicators:
- MACD line (Blue Colour): It is calculated by subtracting the 26 Days Exponential Moving Average (DEMA) from 13 DEMA.
- Signal Line (Red Colour): The signal line is a nine-period moving average (Exponential) of the MACD value itself.
- Histogram: The difference between the MACD line and Signal Line plotted as a histogram.
When the MACD line (Blue) crosses above the signal line, it is considered bullish and when the MACD line (Red) crosses below the signal line, it is considered bearish. The more the height of the histogram the more is the strength/ confirmation of the move.
A stochastic indicator is a momentum indicator and can be used to find where a trend might be ending. It can be used to determine when an asset is overbought or oversold. It’s made up of 2 lines plotted on a separate chart.
As you might’ve already guessed, stochastic can help you to pick an entry point and get into a trend at the very beginning.
When the stochastic lines are above 80, the market is overbought, and a DOWNTREND is likely to follow. When the stochastic lines are below 20, it indicates that the market is oversold, and an UPTREND is likely to follow.
5) Average Directional Index (ADX)
It oscillator, but this time it’s a trend indicator. Average Directional Index (ADX) values range from 0 to 100 and are intended to give you a signal of trend strength.
If ADX is below 20, the trend is weak. If it’s above 50, the trend is strong. However, ADX tells the strength and not the direction of the trend. ADX can be used to remove false signals from other indicators during trading.
Technical indicators can be used in combination. It is a great way to give you more confidence in your positions, avoid false signals, and overall make a profitable trade. It’s not a bulletproof strategy, nothing is, but it will tilt the odds in your favor and that’s the best you can hope for.
Technical Indicators can be used for the short term as well as the long term. It can be also applied for all types of financial instrument that has a price and volume eg: forex, cryptocurrency, commodities.