Everything you learn about trading is like adding a tool to your forex trader’s toolbox.
When you employ the correct tool at the right moment, you will have a better chance of making effective trading judgments.
Bollinger Bands
The Bollinger bands are used to measure market volatility. They function as small degrees of support and resistance.
Bollinger Bounce
- A strategy that relies on the notion that price tends to always return to the middle of the Bollinger bands.
- You buy when the price hits the lower Bollinger band.
- You sell when the price hits the upper Bollinger band.
- Best used in ranging markets.
Bollinger Squeeze
- A strategy that is used to catch breakouts early.
- When the Bollinger bands “squeeze”, it means that the market is very quiet, and a breakout is imminent. Once a breakout occurs, we enter a trade on whatever side the price makes its breakout.
MACD
MACD is used to catch trends early and can also help us spot trend reversals.
- It consists of 2 moving averages (1 fast, 1 slow) and vertical lines called a histogram, which measures the distance between the 2 moving averages.
- Contrary to what many people think, the moving average lines are NOT moving averages of the price. They are moving averages of other moving averages.
- MACD’s downfall is its lag because it uses so many moving averages.
- One way to use MACD is to wait for the fast line to “cross over” or “cross under” the slow line and enter the trade accordingly because it signals a new trend.
Parabolic SAR
The name Parabolic Stop And Reversal refers to the indicator’s ability to detect trend reversals (SAR).
Because it just delivers bullish and bearish signs, this is the simplest indicator to understand.
- It is a sell indication when the dots are above the candles.
- It is a purchase signal when the dots are below the candles.
- These work best in trending markets with extended rallies and downturns.
Stochastic
- Overbought and oversold conditions are indicated by this symbol.
- When the moving average lines are over 80, the market is overbought and we should consider selling.
- When the moving average lines fall below 20, it indicates that the market has been oversold and that we should consider buying.
Relative Strength Index (RSI)
- Similar to the stochastic in that it indicates overbought and oversold conditions.
- When RSI is above 70, it means that the market is overbought and we should look to sell.
- When RSI is below 30, it means that the market is oversold and we should look to buy.
- RSI can also be used to confirm trend formations. If you think a trend is forming, wait for RSI to go above or below 50 (depending on if you’re looking at an uptrend or downtrend) before you enter a trade.
Average Directional Index (ADX)
- The ADX measures a trend’s potential strength.
- It ranges from 0 to 100, with values less than 20 suggesting a mild trend and readings greater than 50 indicating a significant trend.
- ADX can be used to confirm whether or not the pair will continue in its current trend.
- ADX can also be used to indicate whether a deal should be closed early. For example, when the ADX falls below 50, it signals that the current trend may be losing momentum.
Ichimoku Kinko Hyo
Ichimoku Kinko Hyo (IKH) is a technical indicator that predicts future price movement and regions of support and resistance.
Ichimoku means “a look,” kinko means “equilibrium,” and hyo means “chart” in Japanese.
Putting it all together, the word ichimoku kinko hyo means “a peek at an equilibrium chart.”
- If the price is above the Senkou span, the top line is the first support level, and the bottom line is the second support level. If the price is below the Senkou span, the bottom line serves as the first resistance level, while the top line serves as the second.
- The Kijun Sen is used to forecast future price movements. If the price is over the blue line, it could continue to rise. If the price falls below the blue line, it may continue to fall.
- The Tenkan Sen is a market trend indicator. If the red line moves up or down, it means the market is trending. Its horizontal movement indicates that the market is ranging.
- The lagging line is the Chikou Span. A purchase signal is generated when the Chikou line crosses the price in the bottom-up direction. A sell signal is generated when the green line crosses the price from the top down.
Each chart indicator is flawed in some way. This is why forex traders use a variety of indicators to “filter” each other.
As you develop in your forex trading career, you will discover which indicators you prefer and how to mix them in a way that suits your trading style.
Next Lesson: Leading vs Lagging Indicators
