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• Glossary

Using Technical Indicators

Technical Indicators in the Forex
 
A typical technical indicator applied to a chart uses one to three pieces of information: time, price and/or volume. The indicator takes that information and creates a visual representation of the data to give you insight into where a pair is headed.
 
Because Forex is a distributed market, there is very little volume information. That usually leaves just price and time. There are a lot of ways to analyze that information and the potential variables are endless. Understanding how to wade through this data is vital. Technical indicators are designed to help.
 
 
Types of technical indicators
 
Most technical indicators fall into two groups. Oscillators, which include stochastics, MACD, CCI, RSI and many other popular indicators, and Moving average indicators which are usually overlaid directly on the price chart.
 
There are also hybrids and unique indicators that don’t fall into either category but they are rare, and aren’t recommended for retail traders.

Oscillating Indicators
 
An oscillator is a technical indicator that moves up and down (oscillates) within a range. They are usually designed to show the current trend and help identify potential reversals. There are many different oscillators, and all of them have their own strengths and weaknesses.

Moving Average Indicators
 
The simplest technical indicator plots a point each day for the average closing price over n-period. For example, many traders will apply a 20 day moving average on a forex pair they are interested in and each day a point will be plotted on the chart representing the average close price for the last 20 days. When those points are connected with a line and a moving average line appears.

It is very common for a technical analyst to apply another moving average to the chart and look at the crosses of the moving averages as opportunities for buying or selling in favor of the current trend.


Tips for making the most of technical indicators:

Technical indicators have some great advantages and some big drawbacks. Their biggest advantage is that they simplify price movement and are very easy to build rules around. Most technical indicators have very clear breakout levels.
 
The disadvantage with technical indicators is that they lag price movement. By the time a breakout is identified on the indicator, the price move has already been in play for a while. Despite that, there are a ways to use technical indicators that can be really helpful.
 
Here are some other tips for using technical indicators:
 
Technical indicators almost always lag the market so be careful using them for entry and exit signals to avoid whipsaws.
Use technical indicators to trigger trades only in favor of the current trend.
The parameters of a technical indicator can be changed but beware of “over optimizing” your analysis. Adding too many indicators (like in the chart below) will only over-burden you with information and hurt your ability to make trading decisions.

Analysis Paralysis



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