What are technical indicators?
In the intricate world of trading and investment, navigating the financial markets requires more than intuition. It demands precision tools and an in-depth analysis of patterns that have developed in the past.
Technical indicators are these tools for traders that are based on mathematical calculations. By studying the historical price and volume data of a financial security, these carefully crafted indicators are designed to help forecast future market trends.
Importance of technical indicators in trading
Technical indicators perform a number of functions, including:
Understanding technical indicators
Although hundreds of different indicators are available on most trading platforms, it is important to understand the three indicator categories.
- Lagging indicators are used to confirm trends and patterns that have already been established. Their purpose is to provide evidence of a trend's direction and strength, rather than to predict future movements.
- Leading indicators aim to forecast price movements before they occur.
- Confirmation indicators are tools used to validate or confirm the strength, direction, or potential reversal of a trend.
Popular technical indicators for traders
The tables shown below provide a few examples of popular technical indicators from each category.
Lagging indicators
The weekly chart below shows the price of Brent crude oil trading below the 20-period moving average (MA) illustrating temporary weakness of the trend. The ADX line is at 20, representing a weakening trend.
Brent crude weekly chart
Chart prepared by Tammy Da Costa using TradingView
Leading indicators
Between August 2018 and August 2020, gold price rallied, pushing the RSI above 70 and into overbought territory. However, in July 2020, the RSI line changed direction, suggesting that the momentum of the uptrend was beginning to ease.
Gold price chart (monthly) with RSI
Chart prepared by Tammy Da Costa using TradingView
Confirmation indicators
For example, Nvidia has experienced tremendous growth over the past year, buoyed by an increase in demand for artificial intelligence (AI). As prices began to rise in the first quarter of 2023, an increase in buying pressure pushed the CMF above the zero line, confirming the strength of the uptrend.
Nvidia stock price with the Chaikin money flow index
Chart prepared by Tammy Da Costa using TradingView
Technical indicators summarised
- Technical indicators are indispensable tools in the trader’s arsenal
- When used correctly, these tools provide a structured and strategic approach to trading, enhancing decision-making processes.
- These indicators are best used in combination with other forms of analysis and indicators to confirm trends and reduce the risk of false signals.
- Each indicator has its strengths and weaknesses, and the effectiveness can vary depending on market conditions and the specific asset being analysed.
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Past performance does not guarantee or predict future performance. This article is offered for general information and does not constitute investment advice. Please be informed that currently, Skilling is only offering CFDs.
