The Relative Strength Index (RSI) is a momentum indicator that measures the speed and change of price movements. The RSI oscillates between 0 and 100. Historically, the price is considered overbought when the RSI is above 70 and oversold when it’s below 30.
Warren Buffett once said, it is wise to be “Fearful when others are greedy and greedy when others are fearful.” The RSI is the perfect indicator to gauge how fearful or greedy investors are. Every time the RSI indicator is below 30, it shows fear and pessimism and when it’s above 70, it can signify greed and a possible euphoria.
NASDAQ 100 (RSI Oversold)
Bollinger bands consist of a centerline and two price channels (bands) above and below it. The centerline is an exponential moving average, while the price channels are the 2 standard deviations of the stock being studied.
One of the strategies used by traders involves paying attention to when the candlesticks start touching the outer bands of Bollinger Bands. When this happens, it can indicate a sign of a market reversal. This means that the market trend may reverse from an upward trend to a downward trend or vise Versa.
Using this strategy requires patience and practice. By combining Bollinger bands analysis with chart price action, such a bullish candle, before buying a stock or other security, your trading win/loss ratio will improve. Below we’ll look at an example:
NASDAQ 100 (Bollinger bands)
Once a candlestick starts touching the bottom band of the Bollinger Bands, wait for two green candles for confirmation. After these two green candles, you will likely encounter the best entry point. Sell when the chart’s candlestick touches the top band of the Bollinger Bands.
Most professional traders use the 14, 20, and 50-period exponential moving averages (EMAs). This indicator is a moving average with more emphasis on the most recent price data. Traders use these as guides believing that as long as the candles are above the EMA line, the stock should be healthy enough to continue its uptrend. Therefore, in their minds, it’s safe to hold it for further stock price appreciation. Traders may look for a selling opportunity when the candlestick goes below the EMA. That’s because many traders will consider it as broken support of an uptrend. If you sell your stock when this happens, it can save you from a massive pullback or even a bear market.
The Moving Average Convergence Divergence (MACD) is a trend-following momentum indicator. It shows the relationship between two moving averages of a stock price.
We can see in the chart below that the MACD does not predict the bottoms and tops of the market like the RSI. Instead, this tool is used to identify moving averages that are indicating a new trend, whether it’s bullish or bearish.
The Parabolic SAR attempts to give traders an edge by highlighting the likely direction the chart’s candlesticks will be going. This indicator can also be used by traders to find good entry and exit points.
The dots created by the Parabolic SAR at the bottom of the chart’s candlesticks calls for a buy signal, while dots created on the top of the chart’s candlesticks calls for a sell signal. Most traders combine the Parabolic SAR with the EMA indicator for better decision making. This is especially the case when analyzing sideways or choppy markets as these have a tendency to create false signals.
The stochastic oscillator is another momentum indicator. Unlike the RSI that indicates oversold and overbought territories, the Stochastic Oscillator has its own signal lines like the MACD. Think of it as a combination of the MACD and RSI. Traders can decide to hold onto the stock longer even in overbought conditions and only sell when the stochastic starts the crossover signal.
The Fibonacci retracement indicator creates the trader a view of support and resistance levels. These levels are the 23.6%, 38.2%, 61,8% and 78.6%. All Fibonacci levels have equal opportunities for trend continuation, breakouts as well as breakdown. Drawing the Fibonacci trendline in the chart can be a little tricky, for some traders adjust it the way they want to look at it, the best way to draw Fibonacci is by using it from end to end.
The volume indicator helps a trader to confirm an entry on a strong downward market when the price reaches a support level, they spot for high volume transaction that can signify a strong selling is finished. Contrary, on an uptrend, when a stock is already defying gravity, traders can wait for a high volume transaction that can now signify that the strong buying is finally over. From there, they can opt for profit taking or an exit.
The Zigzag indicator will “straighten” the chart by ignoring minor fluctuations of candlesticks and removing its noise. Zigzag also spots the trend’s swing highs and swing lows. Once the trader virtually sees the swing highs and lows, they can now confidently plan a trade entry, targets, and stops by connecting a trendline in the tips of the zigzag. Take note that zigzag indicator does not predict the future trend hence, it gives the bigger picture of what is really happening in the current and past trends. From it, the major support and resistance levels are revealed.
A simple, or arithmetic, moving average is calculated by adding up the closing prices of a security for a given number of time periods. This total is then divided by that same number of periods to get the simple moving average (SMA). SMAs help smooth out security price charts to help traders see patterns and trends. They are also often used to help determine support and resistance levels.
When a shorter time frame SMA (example: 50 day SMA) moves above a longer timeframe SMA (example: 200 day SMA), it’s considered a bullish signal. When a shorter time frame SMA moves below a longer timeframe SMA, it’s considered a bearish signal.
Placed at the top 10 is the Simple Moving Average to remind us about “simplicity”. There is a long debate between EMA and SMA on which is more reliable for they are almost Identical. Both of them are reliable. Traders can even use them together for signal lines. Remember, the simpler the methods are, the better.
The technical indicators mentioned in this article can help you when trading securities. However, there is no one out there that will guarantee success. There are a few successful traders that don’t even use technical indicators at all, they just simply rely on fundamental analysis, price action, trend lines, among other things. These technical indicators can help you find entry and exit points but consider using multiple indicators, combined with sound fundamentals to help you make trading decisions.