TRADING

INDICATORS
Topics
 Trading Indicators
 Meaning of Trading Indicators
 Types of Trading Indicators
o Leadingindicators: o
Laggingindicators:
 The Best Trading Indicators
 Moving Average:
 Different Types of Moving Averages

o SimpleMovingAverage
o ExponentialMovingAverage
 Relative Strenght Index:

o Advantages:
o Importance:

 Bollinger Bands:

o InterpretingBollingerBands

 Moving Average Convergence Divergence (MACD)

o UnderstandingtheMACD
o HowtoInterprettheMACD

 Stochastic Oscillator:

o UnderstandingtheStochasticOscillator
o InterpretingtheStochasticOscillator
o UtilizingtheStochasticOscillatorinTradingStrategies

 Average True Range:

o UnderstandingAverageTrueRange
o CalculationofAverageTrueRange

 Fibonacci Retracement:

o KeyFibonacciRetracementLevels

 Ichimoku Cloud:
 o IchimokuComponents
o HowtousetheIchimokuCloud

 Conclusion:

Trading Indicators
Trading indicators are like oxygen to traders who use technical analysis in
analyzing the financial market so as to speculate price movement.
Therefore it is very important for every trader that falls into this category to
properly understand the crucial role trading indicators play in their
analysis. Every trader that uses technical analysis knows how valuable
trading indicators can be, but many don’t understand that choosing an
indicator is reliant on several factors.
Every trader, therefore, needs to consider these factors before they get to
know the best and most suitable indicators for themselves, which, in turn,
increases the trader’s options and also makes utilization of these trading
indicators optimized and more effective.
Some of the factors that these traders need to consider when choosing or
making use of any trading indicator are; how effective the indicators can
be in relation to the commodities and instruments being traded, The
trading strategy the trader is making use of, the timeframes the trader is
making use of and the volatility level of the market being traded. These
are some of the important factors to consider when choosing a great
trading indicator.

To better understand these factors, it is also essential to know how these

trading indicators function, which is what we will be looking at in this
article. I will be identifying and explaining some of the best and most
effective trading indicators in the financial market, their strengths, the
best usage conditions, and how they can be applied while trading the
financial market. Getting to know these trading indicators, how they
assist in market analysis, and the roles they play, makes it easier for every
trader to easily make a choice each time they need an indicator to
complement their trading style.
Now that we understand the intent of this article, we need to know what
trading indicators mean, to help us better understand the rest of the article.

Meaning of Trading Indicators

Trading indicators serve as indispensable tools utilized by traders and
investors to thoroughly analyze financial markets and make well- informed
decisions regarding the purchase or sale of assets. These indicators are
derived from mathematical calculations and statistical data, which are
based on crucial market-related information such as price movements,
trading volume, and more.
Trading indicators play a crucial role in identifying emerging trends,
detecting price patterns, and signaling potential market reversals. They
offer valuable insights into prevailing market conditions, empowering
traders to generate informed trading signals. As I have stated earlier, there
are several trading indicators and each of them has their strong point and
varying level of usefulness. Therefore, at the end of this article, you as a
trader should be able to easily identify the indicator that suits you the
most.
Now that we already know the meaning of a trading indicator and its
functions, let now take a look at the various types of trading indicators we
have and their utility.

Types of Trading Indicators

There are basically two (2) categories of indicators and every indicator
you see today falls under basically one of the categories. The two (2)
categories of indicators are known as Leading Indicators and Lagging
Indicators.
Leading indicators:
Leading indicators serve as forward-looking metrics, offering early
indications of potential changes or trends within a specific phenomenon.
Their purpose is to forecast and predict future events or outcomes.
Proactive in nature, leading indicators enable businesses and analysts to
make well-informed decisions ahead of time. For instance, in the stock
market, leading indicators may include economic indicators such as the
Purchasing Managers’ Index (PMI) or the consumer confidence index.
These indicators provide valuable insights into the future direction of the
economy.
Leading indicators are mostly used for fundamental analysis, as they are
used to forecast and speculate future events and outcomes.

Lagging indicators:
Lagging indicators, on the contrary, function as retrospective metrics,
confirming and quantifying the performance of a phenomenon or trend
after it has transpired. They trail behind the phenomenon being measured
and are utilized to validate or evaluate the impact of past events or actions.
Reactive in nature, lagging indicators shed light on historical data. Within
the business realm, lagging indicators could encompass metrics such as
revenue growth, profitability, or customer satisfaction scores, all of which
reflect a company’s past performance.
In essence, lagging indicators authenticate and measure the performance
of past events. These indicators are mostly used by traders for technical
analysis, and these are the indicators I will be talking about today. Now
let’s talk about some of the best trading indicators that every trader can
use to improve their trading chances in the financial market.

Read Also: How to Trade Like a Pro Using SMC Trading Strategy

The Best Trading Indicators

1 Moving Averages
. Relative Strength Index
2 Bollinger Bands
. Moving Average Convergence Divergence (MACD)
3 Stochastic Oscillator:
. Average True Range
4 Fibonacci Retracement
. Ichimoku Cloud
5
.
6
.
7
.
Moving
8
Average:
.
The moving average is a trading indicator widely used in financial
markets to smoothen price data and identify the underlying trend. It is a
basic indicator that all beginner traders should also try to understand, as it
has several uses. It calculates the average price over a specific time
period and displays it as a line on a price chart. By eliminating short-term
price fluctuations, moving averages provide a clearer picture of the
overall trend. The moving average has a lot of uses and we will be
examining them briefly.
Identifying the Trend
One of the primary purposes of using moving averages is to determine the
direction of the trend. Traders often consider two types of moving
averages: the short-term moving average and the long-term moving
average. The short-term moving average, such as a 50-day moving
average, reacts more quickly to recent price changes, while the long-term
moving average, such as a 200-day moving average, responds more
slowly.
When the price is consistently above the moving average line, it indicates
an uptrend. Conversely, when the price remains below the moving
average line, it suggests a downtrend. By observing the relationship
between the price and the moving average, traders can make informed
decisions about buying or selling assets.
Serve as Support and Resistance Levels
Moving averages also help identify potential support and resistance levels.
Support refers to a price level where buying pressure is expected to
outweigh selling pressure, causing the price to bounce back up.
Resistance, on the other hand, is a price level where selling pressure is
anticipated to surpass buying pressure, resulting in a price decline.
When the price approaches a moving average from below and bounces
back, it indicates potential support. Conversely, if the price approaches a
moving average from above and faces rejection, it suggests possible
resistance. Traders often monitor these levels to determine optimal entry
or exit points for their trades.

Different Types of Moving Averages

There are different types of moving averages and each of them offers
their own perspective on price trends. The most commonly used moving
averages include the simple moving average (SMA) and the exponential
moving average (EMA).

Simple Moving Average

The simple moving average calculates the average price over a specified
period by equally weighting each data point. It is straightforward to
calculate but may be more prone to lag behind the latest price movements.
The simple moving average is very easy to understand and is simply
calculated by adding prices over a given number of periods, then dividing
the sum by the number of periods.

For example; a 50-day SMA would add the closing prices for the last 50
days and then divide the total number by 50; this is similar to a simple
arithmetic mean. Each time a new period occurs, the moving average
moves forward dropping its first data point and adding the newest one.
Let’s use a 6-day moving average as a practical example:

Last Closing Prices for Google, assuming googles stock price is currently
at $43
$43.41, $43.52, $43.21, $43.77, $43.58, $43.63 = $261.12

To calculate SMA, divide the total closing prices by the number of

periods
6-day SMA= $261.12/6 = $43.52

From the above calculation, we will discover that the 6-day SMA for the
Google price will be on the $43.52 price level, and at that point, it can
either form a support or a resistance zone for price movement.

Exponential Moving Average

The exponential moving average, on the other hand, assigns greater
weight to recent data points, making it more responsive to recent price
changes. As a result, the EMA can provide traders with quicker signals
when the trend starts to shift, as compared to the simple moving average.
Since it gives greater weight to most recent prices it is calculated by
applying a percentage of today’s closing price to the recent(yesterday)
moving average.

To understand how the EMA is calculated, you should read my article on

moving averages, as it will be properly illustrated there.

Relative Strenght Index:

The Relative Strength Index (RSI) is one of the most common trading
indicators in the field of trading and investment and it plays a crucial role
in identifying the market condition, specifically whether it is overbought
or oversold.
The RSI consists mainly of an indicator line that is used to determine the
market’s position and various levels that help assess its condition. The
RSI is mostly placed at the bottom of the trading chart while conveniently
placed alongside the main chart, providing valuable insights to traders
and investors.

Overbought and Oversold Conditions

The RSI is a trading indicator that helps the trader determine whether an
instrument or commodity is in an overbought or oversold market position.
The top end of the RSI scale is referred to as the overbought zone, which
means that the market has experienced a significant price increase and
may be due for a correction. Conversely, the bottom end is called the
oversold zone, which means that the market has witnessed a significant
decline and may be primed for a potential rebound.
Advantages:
One of the RSI’s notable strengths lies in its effectiveness during
sideways market conditions. When the market lacks a clear trend and
exhibits horizontal movement, the RSI can be a reliable tool for traders to
identify potential entry and exit points. By analyzing the RSI’s readings,
traders can gain insights into market volatility and make informed
decisions accordingly.
Importance:

The RSI holds immense significance in the world of trading due to its
ability to provide valuable insights into market conditions. Some of the
reasons why lots of traders make use of the RSI is that it helps to spot
divergence in market conditions and movement, and it also assists the
trader to get better timing in their trades.
Read Also: 8 Chart Patterns Every Beginner Trader Must Know to
Succeed in Trading

Bollinger Bands:
Bollinger Bands is also among one the popular trading indicators used by
traders to assess volatility and identify overbought or oversold conditions
in financial markets.
Bollinger Bands consist of three key components namely: the simple
moving average (SMA) and two standard deviation lines. The SMA
serves as the centerline, while the upper and lower bands represent the
standard deviation from the SMA. This combination creates an envelope
around the price chart, which helps visualize volatility.
Interpreting Bollinger Bands
In most cases, traders utilize Bollinger Bands to identify potential trading
opportunities based on price movements relative to the bands. Here are
some key interpretations:

1. VolatilityAssessment:BollingerBandsprovideavisual
representation of market volatility. When the bands are wider, it
suggests higher volatility, and when they are narrower, it indicates
lower volatility.

2. OverboughtandOversoldConditions:Whenthepricetouches
or crosses the upper band, it may indicate overbought conditions,
suggesting a potential reversal or correction. Conversely, a touch or
cross of the lower band may suggest oversold conditions, implying
a possible upward price movement.

There are many more ways in which Bollinger bands can be used as a
trading indicator while trading the financial markets, and we will be
giving you a more detailed explanation of how to apply Bollinger bands
in your trading strategies in our upcoming articles, just stick with us by
subscribing to our newsletter and hitting the bell icon button to get an
instant notification each time I drop a new article.

Moving Average Convergence Divergence (MACD)

The Moving Average Convergence Divergence (MACD) is a widely used
momentum indicator that helps traders identify trends and potential trend
reversals in financial markets. It provides valuable insights into the
relationship between two moving averages of different time periods.

Understanding the MACD

The MACD is made up of three key elements: the MACD line, the signal
line, and the histogram. Let’s expatiate on each of these components.

1. MACDLine:Thislineiscalculatedbysubtractingthelonger-term
exponential moving average (EMA) from the shorter-term EMA. It
represents the difference between the two moving averages and
serves as the primary indicator in the MACD.
 2. Signal Line: This line is the moving average of the MACD line
itself. Normally, a 9-day EMA is used for this purpose. The signal
line helps smooth out the MACD line and generate trading signals.

3. Histogram: The histogram represents the difference between the

MACD line and the signal line. It shows a visual representation of
the convergence and divergence between the two lines. Positive
values indicate bullish momentum, while negative values suggest
bearish momentum.

How to Interpret the MACD

The MACD is used in identifying potential trading opportunities using
crossovers and divergences. Below are some of the key explanations:

1. Crossovers:ThebullishcrossoversoccurwhentheMACDline
crosses above the signal line, signaling a potential upward trend.
Conversely, the bearish crossovers occur when the MACD line
crosses below the signal line, indicating a possible downward trend.

2. Divergences: Divergences occur when the MACD line and the

price chart move in opposite directions. Bullish divergences are
observed when the price forms lower lows, but the MACD line
forms higher lows, suggesting a potential trend reversal to the
upside. Bearish divergences occur when the price forms higher
highs, but the MACD line forms lower highs, indicating a possible
trend reversal to the downside.

Stochastic Oscillator:
The Stochastic Oscillator is one of the popular trading indicators used by
traders in identifying overbought and oversold conditions in financial
markets. It is similar to the RSI in its functionality. The stochastic
indicator is used in comparing the closing price of an instrument or asset
to its price range over a specific period, the Stochastic Oscillator also
provides valuable insights into potential trend reversals. Let’s take a
quick look at the intricacies of the Stochastic Oscillator, its components,
and how traders can effectively utilize this indicator to make informed
trading decisions.

Understanding the Stochastic Oscillator

The Stochastic Oscillator consists of two lines: the %K line and the %D
line.

1. %KLine:The%Klinesimplyrepresentsthecurrentclosing
price’s position in relation to the price range over a specified
period. It moves between 0 and 100 and is considered the faster
line in the Stochastic Oscillator.

2. %D Line: The %D line is a moving average of the %K line and is

seen as the slower line. It smooths out the %K line and provides a
more reliable signal. The %D line is mostly represented by a
dashed line on the oscillator chart.
Interpreting the Stochastic Oscillator
The Stochastic Oscillator helps traders identify potential trading
opportunities based on overbought and oversold conditions. Here are the
key interpretations:

1. OverboughtConditions:Whenthe%Klinerisesaboveacertain
threshold (usually 80), and then crosses below the %D line, it
indicates that the security may be overbought. Overbought
conditions suggest that the price may be due for a downward
correction or a trend reversal.

2. Oversold Conditions: Conversely, when the %K line falls below a

specific threshold (typically 20), and then crosses above the %D
line, it suggests that the security may be oversold. Oversold
conditions imply that the price may be poised for an upward
correction or a trend reversal.

3. Divergences: Traders also look for divergences between the

Stochastic Oscillator and the price chart. Bullish divergences occur
when the price forms lower lows, but the %K line forms higher
lows. This suggests a potential trend reversal to the upside. Bearish
divergences occur when the price forms higher highs, but the %K
line forms lower highs, indicating a possible trend reversal to the
downside.
Utilizing the Stochastic Oscillator in Trading Strategies
Traders employ various strategies based on the Stochastic Oscillator’s
signals. Here are a few common approaches:

1. StochasticOverbought/OversoldStrategy:Tradersidentify
overbought conditions (above 80) as potential sell signals and
oversold conditions (below 20) as potential buy signals. They enter
trades when the %K line crosses above or below the %D line,
confirming the overbought or oversold condition.

2. Stochastic Divergence Strategy: Divergences between the

Stochastic Oscillator and the price chart can be powerful reversal
signals. Traders look for bullish or bearish divergences to
anticipate trend reversals and enter trades accordingly.
 3. Stochastic Cross Strategy: Traders pay attention to the crossovers
between the %K and %D lines. Bullish crossovers occur when
the %K line crosses above the %D line, indicating a potential
upward trend. Bearish crossovers occur when the %K line crosses
below the %D line, suggesting a possible downward trend.

Average True Range:

The Average True Range (ATR) is one of the most powerful and
effective trading indicators used by many professional traders to properly
assess market volatility. It helps in measuring the average price range
between high and low prices over a specific period, also providing
valuable insights into market volatility and potential trading opportunities.

Understanding Average True Range

The Average True Range is a technical indicator that calculates the
average trading range of a security over a given time period. Unlike other
trading indicators that focus solely on price movements, the ATR looks at
the gaps and limit moves as well. The ATR also provides traders with a
measurement of the market’s volatility and can be applied to various
trading instruments, including stocks, commodities, and forex.

Calculation of Average True Range

The Average True Range can be calculated using the following steps:

1. Determinethetruerange(TR)foreachperiod.Thetruerangeis
the largest of the following:
 1. Thedifferencebetweenthecurrenthighandthecurrentlow.
2. Theabsolutevalueofthedifferencebetweenthecurrent
high and the previous close.
3. The absolute value of the difference between the current low
and the previous close.

2. Calculatetheaveragetruerangebytakingtheaverageofthetrue
ranges over the specified period.

In most cases, the ATR is calculated over a 14-day period, but traders can
adjust the period according to their preferences and trading style.
Read Also: The Ultimate Forex Scalping Strategy Guide

Fibonacci Retracement:
Fibonacci Retracement is another popular trading indicator, that many
traders use in identifying the potential support and resistance levels
during price corrections within larger market trends. This tool is based on
the Fibonacci sequence, a mathematical pattern found in nature and the
financial markets. Let’s briefly examine how the Fibonacci Retracement
works and some of its key components.
Fibonacci Retracement uses horizontal lines to mark significant levels of
potential support and resistance. These levels are derived from key ratios
based on the Fibonacci numbers, including 23.6%, 38.2%, 50%, 61.8%,
and 100%. The Fibonacci sequence is a series of numbers in which each
number is the sum of the two preceding numbers (e.g., 0, 1, 1, 2, 3, 5, 8,
13, and so on).
Key Fibonacci Retracement Levels
There are essentially five (5) key Fibonacci levels, as shown below:

1. The 23.6% Level: The 23.6% Fibonacci retracement level is often

the shallowest retracement level. It suggests that the price may only
pull back by approximately 23.6% of the previous move before
resuming the larger trend.
 2. The 38.2% Level: The 38.2% retracement level represents a
common retracement during a price correction. It indicates that the
price may retrace around 38.2% of the previous move before
continuing in the direction of the larger trend.

3. The 50% Level: The 50% retracement level is not a Fibonacci

ratio but is widely used in Fibonacci Retracement. Traders often
consider the 50% level as a potential reversal or continuation point.

4. The 61.8% Level: The 61.8% retracement level is a significant

Fibonacci ratio. It suggests that the price may retrace
approximately 61.8% of the previous move before continuing the
larger trend.

5. The100%Level:The100%retracementlevelindicatesa
complete retracement of the previous move, effectively bringing
the price back to the starting point.

Fibonacci retracements allow traders to take a more calculated entry and

exit in the market.

Ichimoku Cloud:
The Ichimoku Cloud is a complex but comprehensive trading indicator
that provides helps traders properly understand the trend direction,
support/resistance levels, and momentum in the financial markets. The
Ichimoku cloud indicator was created by Japanese journalist Goichi
Hosoda in the late 1960s, this indicator has since then gained widespread
popularity among traders due to its ability to capture multiple aspects of
market analysis in a single chart.
Ichimoku Components
The Ichimoku Cloud consists of several components that work together to
provide a holistic view of the market. These components include:
1. Tenkan-sen(ConversionLine):Thislineiscalculatedby

averaging the highest high and lowest low over a specific period,
typically 9 periods. It provides insights into short-term trend
direction.

2. Kijun-sen (Base Line): Similar to the Tenkan-sen, the Kijun-sen is

calculated by averaging the highest high and lowest low over a
longer period, usually 26 periods. It offers information about
medium-term trend direction.
3. Senkou Span A (Leading Span A): This component represents
the average of the Tenkan-sen and Kijun-sen plotted forward 26
periods. It forms the lower boundary of the cloud and helps
identify potential support/resistance levels.
4. Senkou Span B (Leading Span B): The Senkou Span B is
calculated by averaging the highest high and lowest low over an
even longer period, typically 52 periods. It forms the upper
boundary of the cloud and provides additional support/resistance
levels.

5. Kumo (Cloud): The area between Senkou Span A and Senkou

Span B is known as the Kumo or cloud. It helps traders identify
potential areas of support and resistance. The thickness and color
of the cloud can also provide visual cues about market sentiment.

6. Chikou Span (Lagging Span): The Chikou Span represents the

closing price plotted backward 26 periods. It helps traders assess
the current market momentum and can be used to confirm or
contradict other signals provided by the indicator.
How to use the Ichimoku Cloud
Traders analyze the Ichimoku Cloud using several key principles, some
of which I will be mentioning below:

1. CloudBreakouts:Whenthepricemovesaboveorbelowthe
cloud, it is considered a potential signal for a trend reversal or
continuation. A bullish breakout occurs when the price moves
above the cloud, indicating a potential shift from a bearish to a
bullish trend. Conversely, a bearish breakout occurs when the price
moves below the cloud, suggesting a potential shift from a bullish
to a bearish trend.
2. Cloud Thickness: The thickness of the cloud can provide insights
into the strength of support or resistance. A thicker cloud indicates
a stronger support/resistance level, while a thinner cloud suggests a
weaker level.

3. Chikou Span Confirmation: Traders often look for confirmation

from the Chikou Span. If the Chikou Span aligns with the current
price and confirms the signal provided by other components, it
strengthens the validity of the trading signal.

4. Crossover Signals: Crossovers between the Tenkan-sen and

Kijun-sen can indicate potential buy or sell signals. A bullish
crossover occurs when the Tenkan-sen crosses above the Kijun-sen,
suggesting a possible uptrend. Conversely, a bearish crossover
occurs when the Tenkan-sen crosses below the Kijun-sen,
indicating a potential downtrend.