What are the top 5 technical analysis indicators?

Whether you’re interested in currency trading or shares trading, technical analysis can help you identify trends and signals in your specific market. If you follow technical analysis, then these top 5 technical indicators should help you in your daily trading strategy. The top 5 technical indicators we will discuss here are the MA, RSI, ADX, MACD, and Bollinger bands.

What is a Technical Indicator?

A technical indicator is a tool that analyses historical data to project future price movements of an instrument, such as an FX pair or a stock. Traders use different kinds of technical indicators to speculate on the future price of an instrument and to anticipate its price movements.

There are two types of indicators: lagging and leading. A lagging indicator analyses past momentum and trends, whereas a leading indicator forecasts price movements. In other words, trading indicators are a mathematical illustration of data through charts, plotting of lines and signal analysis to forecast an asset’s price movements.

Top 5 technical analysis indicators

Technical Indicators: Moving Average (MA)

A moving average is a common technical analysis tool used to smooth out price data by creating a continually updated average price. It’s called “moving” because it recurrently recalculates as new data becomes available, and it moves along with the price action.

How does an MA work?

• Calculation: To calculate a simple moving average (SMA), you take the sum of a set of data points over a specific period and then divide by the number of points. For example, to calculate a 10-day SMA, you’d sum up the closing price of the last 10 days and then divide it by 10.

• Plotting: After the average calculation, a point is marked on the chart which corresponds to the closing price of the last data point. As new data comes in, the oldest data point is dropped, and the average is recalculated, which results in a moving effect on the chart.

• Interpretation: Then it is time to interpret the data. Moving averages help traders identify trends and potential trend reversals. If the price is above the moving average, it may indicate an uptrend, but if it is below the moving average, it may show a downtrend. Crossovers between different moving averages (e.g., a shorter-term moving average crossing above a longer-term moving average) tend to be used as signals when there is a change in direction.

Moving averages can be simple moving averages (SMA), exponential moving averages (EMA), and weighted moving averages (WMA). Each type has its own method of calculation and interpretation, but they all help to smoothe out price data to find trends and potential trading opportunities.

Relative Strength Index (RSI)

The Relative Strength Index (RSI) is a momentum oscillator used in technical analysis for identifying potential entry and exit points in the market based on momentum and overbought/oversold conditions. It measures the speed and change of price movements. It’s used in technical analysis to assess whether a stock or other asset is overbought or oversold.

The RSI ranges from 0 to 100 and is shown as a line chart below the price chart of the instrument you want to analyse. When a reading is over 70, it means the asset is overbought and may increase or reverse its price to the downside. If readings are below 30, then the asset is considered oversold, and its price may recover or change to the upside.

Average Directional Movement (ADX)

The ADX is an oscillator that indicates the tendency of the trend. It was created by J. Welles Wilder, who also discovered the Directional Movement System, of which it is one of the elements. The ADX gains its power to identify the strength of a trend, irrespective of whether it is up or down. The RSI can be calculated between 0 and 100, where larger values on the upper side reflect a strong trend and lower values on the lower side prove a flat market or a weakening trend.

The ADX is derived from two other indicators: – DI (+DI) and the – DI (-DI) which are all the essential components of the Directional Movement Indicator. The +DI set the strength of upward activity, whereas -DI set the intensity of recession movement. ADX is equated to the variation between +DI and -DI, divided by ADX value which has both included in the calculation, and then multiplied by 100 which result in percentage.

Traders and analysts who want to know whether a security is moving upwards or in a horizontal phase will use the ADX. This EMA indicator also helps in catching trend reversals.

Moving Average Convergence Divergence (MACD) Technical Indicators

The MACD, which is a trend-following momentum indicator, reflects the connection between the two moving averages of the security’s price. It consists of two lines: the MACD line, which plots short- and long-term EMA, as well as the signal line.

The MACD line is the difference of a 26-period Exponential Moving Average (EMA) from the 12-period one. The signal line, which is the 9-period floating EMA of the MACD line is plotted above it to show when signal bars will occur and when to buy and sell.

To interpret a rising MACD, when the line crosses the signal line above it, this signal may mean that the current situation is strong for buyers and may be a good time to buy. In contrast, whenever the MACD line goes below the signal line, it shows a probable bearish trend which indicates that it may possibly be a good time to sell.

Furthermore, the degree of the trend can be found by comparing the distance between the fast MACD line and the slower MACD signal line. The larger the gap is, the stronger the momentum, while the opposite shows a weakening trend in the narrower gap.

Bollinger Bands

Bollinger Bands serve as a tool for analysis featuring a moving average (SMA) at its center and two standard deviation bands—one above and the other below the SMA. The gap between these bands is determined by volatility typically computed using the prices deviation over a timeframe (often 20 periods).

These bands help traders visualise both volatility and the potential price levels of a security. When the price nears the band it indicates overbought conditions for the security while proximity to the lower band suggests oversold situations.

Traders commonly rely on Bollinger bands to pinpoint reversal points or breakout opportunities. For instance, breaching or touching the band may signal an overvaluation of the security with a likelihood of a pullback. Conversely, touching or crossing the band could imply undervaluation by chance.

Technical analysis

If you would like to learn more about technical analysis and how traders use it to improve their chances when trading, visit IronFX’s website and get started with the Academy’s exceptional educational material. IronFX’s experts have curated a detailed and in-depth library of educational resources that suit all levels of traders to help you when trading the markets. Additionally, the blog is a great source for articles on all things trading and can be a valuable resource of information for advanced as well as beginner traders.

Disclaimer:
This information is not considered investment advice or an investment recommendation, but instead a marketing communication. IronFX is not responsible for any data or information provided by third parties referenced or hyperlinked in this communication.