Whether you’re trading in stocks, commodities, or derivatives, technical analysis can increase the chances of success. By using technical indicators you can determine the future price movement of an asset to a certain extent. You can then use this information to your advantage to set up an appropriate trade. However, with so many indicators to choose from, which one do you use to improve your chances of getting a profit from your trade? Here are 5 simple technical indicators that you can use.
Day traders typically use technical indicators that use price and volume information to predict future movements. These include moving averages, on-balance volume, MACD, Relative Strength Index, and Fibonacci retracement. Let’s take an in-depth look at each of these indicators separately.
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As the name implies, the on-balance volume is a volume indicator that traders use to determine the level of buying or selling activity in an asset.
The indicator works by subtracting the total ‘down volume’ from the total ‘up volume’ each day. The ‘up volume’ is defined as the amount of volume in a day when the prices go up. The ‘down volume’ is defined as the amount of volume in a day when the prices fall.
The indicator adds ‘up volume’ and subtracts ‘down volume’ each day depending on whether the price goes up or comes down. By doing this every day, the indicator helps you measure the positive and negative flow of volume in an asset.
If you find the OBV of an asset going up, it might indicate further upside in the prices due to the increase in the buyers. On the other hand, if the OBV is falling, it might indicate a downside in the price due to the presence of a large number of sellers.
The OBV can be used as a trend confirmation tool. If the price and the OBV are rising, the uptrend is likely to continue. However, if the price is rising and the OBV is falling, the trend may soon reverse.
Moving Averages is a staple and one of the most used technical indicators in the arsenal of a day trader. It is a trend indicator and is very useful to determine the way the price of an asset is likely to move in the future.
Speaking of Moving Averages, day traders usually restrict their usage to 50-day MA and 200-day MA. This is primarily because the 50-day MA gives you the average price of the asset for the short term, whereas the 200-day MA gives you the average price for the long term.
Also, there are two different versions of the Moving Average that traders use - Simple Moving Average (SMA) and Exponential Moving Average (EMA). The exponential version gives you a more accurate picture since it is more responsive.
The Moving Average is used by traders to identify the direction of a trend and to ascertain support and resistance levels in an asset. Using this information, they then set up a trade accordingly.
If the price of the asset crosses its moving average, a trading signal is generated. For instance, if the asset price crosses its 50-day MA and moves upward, it signifies a bullish trend. You may use this information to take a long position on that asset.
Another major technical indicator that day traders use is the Moving Average Convergence Divergence, also known as MACD. It is used in conjunction with the Moving Averages of an asset. The MACD is an indicator that tells you just how fast the price of an asset is moving and can detect a change in the momentum.
The MACD works by comparing two different Moving Averages. If the two Moving Averages are converging together, it signifies waning momentum, whereas if the Moving Averages are diverging, it signifies increasing momentum.
In a Moving Average Convergence Divergence graph, there are three lines - a zero line, a signal line, and a MACD line. If the MACD line is above the zero line, it signifies a bullish trend. On the other hand, if the MACD is below the zero line, it signifies a bearish trend.
That’s not all. If the MACD crosses the signal line from below, it indicates a future drop in the price. On the other hand, if the MACD crosses the signal line from above, it indicates a future rise in the price.
The Relative Strength Index is an indicator that signifies trend strength and momentum. It is widely used by traders to find out if an asset is overbought or oversold. RSI is also used to determine trend reversal and support and resistance levels.
The Relative Strength Index moves between 0 to 100. If the RSI of an asset goes above 70, it is said to be in the overbought territory. This means that the price may soon reverse with the entry of sellers. On the other hand, if the RSI of an asset goes below 30, it is said to be in the oversold territory, and the price may soon reverse with the entry of buyers.
Also, if the price of an asset moves contrarily to the direction of the RSI, the trend is said to be weakening and approaching a reversal point.
The Fibonacci Retracement is a unique technical indicator that is capable of ascertaining the extent to which the market is likely to move against its trend. A retracement or a pullback is when the market briefly moves against its trend. By determining the level of pullback or retracement an asset is likely to experience, you can enter into a suitable long or short position accordingly. Additionally, the Fibonacci Retracement also helps you identify support and resistance levels, which you can use to set stop losses and target limits.
Day traders don’t just use one indicator to plan their trades. Instead, they use a combination of two or maybe even three indicators. This way, you can increase your chances of success. Also, these indicators are not accurate all of the time. Despite these indicators, the market may choose to move otherwise as well. Therefore, it is a good idea to have a strong risk management plan in place.
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