Technical analysis is a key trading skill but beginners often find it daunting. Here are the 10 Forex trading indicators you should focus on, with comments and tips by experts from the team at Silicon Signals.
1) Moving Averages
Moving averages (MAs) smooth out price action. They show you where the price is moving but without the distraction of short-term volatility.
To calculate a Simple Moving Average (SMA), add up the price values for several data points and divide the sum by the number of points. An Exponential Moving Average (EMA) gives more weight to the more recent data points.
The most popular SMAs are 50-day and 200-day. The point where they cross is considered an important long-term trend signal.
2) MACD (Moving Average Convergence Divergence)
MACD shows you the strength (momentum) of a trend by comparing two EMAs – usually the 26-day and the 12-day EMAs. The goal is to see if they move closer together (converge) or further apart (diverge). Divergence means that the trend is intensifying. The result can be positive or negative but it’s the absolute value that matters.
A 9-day EMA is also usually plotted as a signal line. When the MACD crosses above it, you should buy and when it crosses below, it’s better to sell.
3) RSI (Relative Strength Index)
RSI measures recent price changes to identify if an asset is overbought (and you should expect a correction) or oversold (and a rally is probable). It takes values between 0 and 100%. Our Silicon Signals in-house expert says:
“Many textbooks will tell you that RSI above 70% means ‘overbought’, but new data shows that 50% is already an overbought indicator in a bear market. Likewise, 40% can mean oversold.”
4) Bollinger bands
This volatility indicator was created by John Bollinger. The bands show how much the price deviates from the moving average (usually the 20-day SMA). Wider bands mean a more volatile market.
Silicon Signals analysts’ take?
“Bollinger bands are the best volatility channel out there, but by themselves aren’t enough for a strategy. They don’t give you good buy or sell Forex signals. Make sure to use additional indicators, such as RSI and MACD.”
5) ADX (Average Directional Index)
ADX measures trend strength. A strong trend is more likely to continue and beginners are advised to trade in the direction of the trend.
ADX can take any value between 0 and 100. Many believe that you should only pursue a trend trading strategy when it’s above 25. Note that ADX doesn’t show you where the price is moving – when the trend is going sharply down, ADX can be just as large as during a strong upward trend.
6) Aroon Indicator
Aroon shows you where the trend is moving and how fast. It measures the time between price highs and lows during the past 25 periods (days). The idea is that during an uptrend, the price regularly reaches new peaks, but in a downtrend, lows are more common.
Aroon values range from 0 to 100. There are two lines: one for highs (Up), the other for lows (Down). When the Up line is above the down line, the market is bullish. When they cross, it might signal a trend change. The indicator was created in 1995 by Tushar Chande.
7) Stochastic Oscillator
This momentum indicator compares the latest closing price to the highest and lowest closing prices in the past 14 days. The idea is that on an uptrend, the price usually closes near the 14-day high or sets a new high. The values range from 0 to 100% and there’s usually an extra line for the 3-day mean to smooth out daily fluctuations.
Silicon Signals’ trading expert advises:
“An oscillator value above 80 tells you the pair is overbought, but it doesn’t mean a reversal is near. An asset can spend weeks above 80, so don’t rely just on this indicator.”
8) SMI (Stochastic Momentum Index)
SMI is a more precise variation on the stochastic oscillator that compares the latest price, not to a single highest and lowest price in a range, but to the median of their range. The values range from -100 to +100, and there’s also a second line, smoothed out using an MA.
Values above +40 indicate an oversold asset, below -40, oversold. The indicator was created by William Blau.
9) Parabolic SAR (Stop-and-Reverse System)
The parabolic SAR indicates price direction and potential reversals. It appears as dots. A dot below the current price is a bullish signal, while a dot above the price indicates a bearish trend. Note that you should only use the parabolic SAR when the market is trending. During a sideways movement, it generates a lot of false MT4 signals.
10) CCI (Commodity Channel Index)
CCI shows when an asset is overbought or oversold and helps detect trend reversals by comparing the current price with past averages.
A move from a negative number to 0 to a positive number indicates the beginning of an uptrend. For different assets, levels are different. One can reverse at +150, while another at +250, for example.
In Conclusion: Which Indicator Is Best?
Trading platforms like MT4 and MT5 feature dozens of free indicators. Novices often think that more complex ones must be better, but that is not true. Basic indicators can produce a powerful effect when used as part of a strategy. Here’s a final thought from Silicon Signals – a platform that lets you build your own trading algorithms and create Forex signals:
“In our algo builder, users can choose from 10 different easy-to-use indicators. Indicators, by themselves, don’t make up a strategy. Make sure you also include the money management settings, like take profit and stop loss.”