Popular Trading Indicator Used In Stock Market
Popular Trading Indicator Used In Stock Market
Trading indicators are the technical analysis tools that
traders use to identify the best entry and exit zones on the charts. These
tools are used to identify the numerical movement of the share price of a
particular company in the market. By using these indicators traders can identify
profitable trading opportunities in the market. There are three main types of trading
indicators – trend indicators, oscillators and volume indicators. Each type of
the trading indicators works differently and can be used to determine different
things.
Trading indicators
are most useful when combined with price action. Price action is your
trades, based on your analysis of price and volume. Indicators help you
confirm your trades and place additional trades to help your winning trades be
bigger and your losing trades is minimized.
Trading indicators are exactly what they sound like, they
are technical indicators which help traders to trade, or perhaps more
accurately, they are methods or strategies which are used by traders to help
them trade. Trading indicators do not tell you what to buy or sell, or
when to do it, but instead, they are used to help the trader make an informed
decision when they are trading. These indicators can be technical or they
can be based on analyzing the currency market, they can be analyzed by the
trader to find an entry point and a place to exit from a trade. There are
many trading indicators, and some of them are very popular and are used
regularly by traders around the world.
Moving Average
Moving Average is a popular technical analysis tool used to
evaluate the average price of a stock over a given period. It is also known as
a trend-following indicator. A moving average is an indicator that smooths out
price action. It helps in identifying the trend of the price and trading in the
direction of the trend. Moving average is used to help investors identify the
current trend in a stock in an effort to decide whether the stock is likely to
rise or fall in the near future. A rising moving average generally
indicates an upward trend, and a declining moving average generally indicates a
downward trend. Three types of moving averages are commonly used by technical
analysts: simple (or SMA), exponential (or EMA), and weighted.
If you have a long-term investment strategy, you are
probably not interested in short-term movements in the market. Instead of
watching the daily swings, you can watch the long-term movements indicated by a
moving average. In the range of 20 to 60 days, moving average of 20 days and 50
days is the most used. As you move the number of days further into the past,
you will receive less and less useful information, because the price is already
adjusted by many factors. If you want to go short term, then you can use 5
days. If you are going long term, look at 20 to 60 days. Moving average is one
of the most effective tools in technical analysis. You can use a moving average
to generate trading signals.
In this chart, 20-period simple moving average is used.
Here, price is making a series of higher highs and higher lows indicating an
uptrend. Moving average used here is also heading towards upside which is also
clearly indicating the uptrend. Traders can use moving average not only for
understanding the trend but also as a dynamic support.
Here, two moving averages is used which are 9-MA and 20-MA.
When 9-MA crosses the 20-MA towards upside, it indicates a buying signal and it
is known as a moving average crossover strategy. Many people use this moving
average crossover strategy for entering and exiting trades. Which pair of MA
will be used for a moving average crossover is depends on the traders. MA 5,
9,13,20,50,200 are mostly used in trading.
Relative Strength Index (RSI)
Relative Strength Index is a popular technical analysis tool
used to evaluate the momentum of a stock. It measures the magnitude of recent
price changes and compares them to the magnitude of the price changes in a
previous period. The RSI oscillator fluctuates between zero and 100. When the
RSI is greater than 70 it is overbought, and when it is below 30 it is
oversold. The RSI can be used to identify potential reversals in the near
future. Also, the RSI reverses very quickly once it goes overbought or
oversold. So, the trick with RSI is not to get out too early and miss a move,
or wait too long and get stopped out with a loss.
When the value of RSI is in overbought zone, it indicates
that a trend reversal or retracement of the running uptrend can be seen. So,
traders should avoid buying this share at that moment and should wait for the
retracement for a better entry. But it is not obvious that the price will fall
as soon as the RSI hits the overbought area. Sometimes RSI stays in overbought
area for a long period and price still continues in an uptrend. When the value
of RSI is in oversold zone, it indicates that traders should looking for
suitable buying opportunities in low prices because there can be a start of an
uptrend. It is not recommended to use RSI as a standalone indicator for
trading. Traders can find better output when they combine RSI with chart patterns.
Have a look at the marked box, RSI is in the below 30 level
which is known as the oversold zone. Also, RSI divergence is also forming as
the price is making lower lows and RSI is making higher lows. Traders usually
look for oversold zone and divergence for potential buying opportunities.
Stochastic oscillator
Stochastic oscillator is well known technical indicator used
to track the location of a security’s price relative to its high-low range over
a given time period. It is a type of momentum indicator that measures the
velocity and magnitude of directional price movements. Stochastic Oscillator is
commonly used to identify entry and exit points for trading positions. It is
also useful for determining overbought and oversold conditions. When the Stochastic
Oscillator line is above the 70 level, it indicates that the security is
overbought and likely to fall. Conversely, when the stochastic line is below
the 30 level, the security is considered oversold and likely to rise. The
stochastic oscillator is based on the concept that after a period of data where
there is a large amount of fluctuation, the volatility will return to normal.
Conversely, after a period of low volatility, the volatility will likely
increase. In a volatile market condition sometimes, it generates false signals
which can lead to bad traders. So this indicator is best used in conjunction
with other indicators and chart patterns.
Bollinger Band
A Bollinger band is a trading indicator that was developed
by John Bollinger. Bollinger bands are a type of volatility indicator and are
based on the average price of a security over a set period of time. The purpose
of the indicator is to determine oversold and overbought conditions in the
market. It uses volatility to determine when an asset is in a state of
overbought or oversold. The bands are a moving average of the standard
deviation of a security’s price. The middle band is the 20-period simple moving
average of the price range and is plotted two standard deviations above and
below that moving average. A 20-day moving average is often used as this is the
period that the stock market has historically moved in.
The
bands get tightened in a low volatility market condition and it indicates that
a strong bullish or bearish movement can be seen which can start a new trend.
Sometimes false movement is seen before the price starts moving in its actual
direction and traders should be aware of the false movements. When bands are
largely separated, it indicates that there can be a retracement of the running
trend.
MACD (Moving Average Convergence/Divergence)
MACD
means Moving Average Convergence/Divergence. It is a trading tool that uses
moving averages to determine trend direction, momentum, and to identify possible
trading signals. It is a lagging indicator because it is based on past prices
and not current price. The MACD is calculated by subtracting the 26-day (EMA)
from the 12-day EMA. This is called the MACD line. 9-day EMA is also used in
the MACD indicator which is plotted on top of the previously calculated MACD
line. This 9 –day EMA is known as signal line. When MACD line crossed the
signal line in an upward, it indicates a buy signal and when MACD line crosses the
signal line in a downward direction it indicates a sell signal. Traders use
these crossovers techniques to buy shares. MACD indicator can be also used to
identify potential trend reversal opportunity with the help of divergence. When
price is making lower lows and MACD indicator is making higher lows it is
called MACD divergence and it indicates that traders should look for buying
opportunities in that stock. One of the limitations of MACD is it produces many
divergences but not all of them leads to price reversals. So traders should not
enter a trade just after finding a divergence. They should use chart patterns,
support resistance and other technical analysis tools to be 100% sure of the
trade.
In this picture, MACD line crossing above the signal line
(showed by green arrow) indicating buying opportunities. People should be looking for this type of
confirmation from the MACD indicator when using it. Traders should take their
profit when the MACD line crosses below the signal line in higher timeframe.
Whenever you entered in a trade at the beginning of the uptrend, you will see
many MACD crossovers to the downside because of the retracement of the trend
and you should not close your trade just because of a MACD crossover which is
caused by the retracement. Traders should combine multiple signals from other
indicators or chart patterns for their exit strategy which will help them to
get the maximum output from the market.
Conclusion
Trading
indicators are mathematical calculations based on how stock’s price value moves
up and down. It helps with the decision of buying and selling. They are not a
magic wand, they simply give you a heads up on price movement and let you know
the chances of prices increasing or decreasing. Trading indicators are really
important. They are often the first step towards building a system. Traders
should have a clear understanding of the multiple uses of trading indicators
which can help them in their trading.