Indicators... The Beautiful Lie

This is a discussion about why indicators are completely useless.
Let me begin with this....

In an uncertain environment the human mind gravitates and clings to anything that can give meaning to what's going on. Indicators fill this role perfectly. Just like reading your horoscope, YOU make it fit into your analysis. There are countless settings and time frames and indicators to choose from, one (probably many) will alway back up your argument. The problem is when it works we find comfort in that fact, and when it doesn't we forget about it. We do this because we WANT to believe that they work, because deep down we hope that its true and they can make us rich.... People have the tendency to regard all things good as their own doing and all things bad to some external cause. This is just human nature, and it works well for indicators. "Yes I made money, my indicators are great", or " Damn I lost, maybe I should adjust the settings". The truth is the more I learn the more I see nobody knows what going to happen, it's just money management and your own psychology that will make or break you. With all the intelligent people out there don't you think someone will have invented the perfect indicator, and be sitting on the beach watching the money role in. To date I have yet to hear of something like that, and I am confident I'll never hear it. These indicators are just instruments that improve market liquidity... think about it.... with all the different indicators and setting, there will always be a signal going off. This ensures that banks and those with clout can off load their positions to the unsuspecting crowd. And, even if banks use indicators it's only to see what everyone else may be thinking.

So indicators are

1) slow
2) and therefore impede your performance
3) Self validating due to infinite arrangements
4) Give you confidence when you shouldn't have any
5) Help you become a sucker

Ps. I know there will be talk about the market being fractal ... this is just another way to validate indicators.

You have half the story correct, endlessly permuting indicators to fit historical data is useless. But if you actually know what market effect you are trying to measure, indicators can be useful.

Craig

Would you care to elaborate, I'm keen to hear what you have to say....

Let me give an example, lets say you were trading a spread, it would be perfectly valid to use standard deviation bands to measure deviation from the mean (I can't think of any other way of doing it). Another example is volatility stops using the ATR indicator, nothing wrong with that.

Indicators as in themselves are not useless, they simply measure something. Random application of indicators (as usually seen here) is useless, you have to have an effect which you want to measure, you don't find effects simply by tweaking indicators, this is simply inducing the worst kind of data mining bias imaginable.

Not going to speak for him, but I would assume he means something like if you are expecting the market to trade in a range, stochastic can work well, or if you are expecting a breakout, an indicator like the ADX can be used for confirmation.

Of course one doesn't an indicator to trade a rangebound market, or to trade a breakout, but like he said, if you know what effect you are trying to measure then they can be helpful.

I use moving averages on some of my charts, never as signals (MA crossovers are the worst 'system' ever, but even they can be used profitably), but tools for confirming price action, as they can be a good aid in describing what has gone on depending on what you are trying to measure.

edit: looks like craig beat me

Quoting Craig

Disliked

You have half the story correct, endlessly permuting indicators to fit historical data is useless. But if you actually know what market effect you are trying to measure, indicators can be useful.

Ignored

I agree with Craig. If you know the pupose of a particular indicator and how to read it correctly & react to it, indicators may be very helpful to a trader.

For instance, lets take Price Action (Candles) indicator out for a spin. Most traders are intimidated by Candle Patterns and basic market movement. Watching candle formations, can be a VERY good indicator to a trader and would help a trader anticipate the next move. Also, understanding general market movement, a trader could time his/her entries/exits almost to the pip. The market moves in Retracements. As soon as the trader grasps the concept of Retracements, trading can and will be a lot easy.

Too many traders try SWING trading as the End-All to a particular trading style without realising the many other ways to trade the market. There are Long-Only traders, Short-Only traders, Swing traders, Divergence-Only traders etc etc etc...

A great indicator, I use and has proven itself well, is Candle Retracements. Lets take a Long position for example. Watching the market, I see the market moving upwards with high/long candle strength. As a trader, i would now look to enter a SELL order at the high of that upwards move. As soon as a top has been confirmed, I would only trade the Retracement (which is a type of indicator). In addition, I could use a Fib Retracement (another indicator) to help me "judge" the retracement depth, in doing so, would help me with a exit strategy. Using, Market SELL-ONLY Retracements, is just one of many examples how "indicators" could assist a trader in becoming profitable.

Hi craig, nice post.

I have one question, what is 'trading a spread'?

Leon

A spread is the difference between two markets (aka 'pairs trading').

Ragging on indicators is hip and trendy. It's the popular thing to do. But in the proper context indicators can be very useful.

The first chart. This is the pound over the last several days. I've got a few indies on it, fibs, weekly and daily pivot, macd.

A couple things to notice. Notice how the fibs are very good at predicting the H&S range and it's breakout. Notice how the daily pivot has a nice pullback (sell point, anyone?) that also corresponds to a fib.

Also notice the MACD. In a downtrend it pulls back (highlighted) to the 0 line. Another sell point. Obviously you have to know that you're trending in order to use it, obviously you can't use it in a range, but if all you're looking for is a potential entry point... or a heads-up on when the trend changes (crosses then pulls back), it works wonders.

Then the 2nd chart. This is today's EURGBP. Notice again the fib pull and it's accuracy at predicting possible areas. Also notice the double top formation, how the MACD's 2nd top is lower. That indicates less momentum on the 2nd top, and alludes to a strong potential drop on the EURGBP. Infact if you go to the H1, it's already started. Using the info above you could wait for price to cross, then pull back to the MACD 0 line, then go short. If you need more confirmation then wait for all of that to occur AT a fib retracement level since fib breakouts tend to have a small pullback.

So yes, indicators... if properly used, work great. The problem is most people just throw them on a chart w/o learning how to use them, and then they get mad when ranging behavior eats them up. It's all about context.

lol. dude, you are just as bad as all the people who have charts full of indicators, lines, fibos, channels, bands, ma's, etc. you are taking an extreme in a situation where the solution lies in the middle.

indicators are used wrongly by the majority of users. most people use them as signal providers. if A crosses B, then sell sell sell!!!!!! or if C gets above 2000, BUY BUY BUY!!!!!

that's freakin ridiculous. granted, some indicators are specifically built for signals (the majority of which end up losing) but that's not what indicators in general were built for. they were built for INDICATING changes in price, patterns, deviations etc.

they should be used as tools or confirmations, or even entries and exits, but not buys and sells. since i'm guessing that is what you used them for, of course it didn't work. and now, because you decided to try and take a short cut instead of actually learning the market, you are pissed because you lost.

here's a summary of your post and my rebuttals (yours are in bold):

So indicators are

1) slow

Obviously. they are based on past data. so yes they are slow, but what are you comparing them to? what is fast? you? your mind? if so, why did you use indicators in the first place? obviously you didn't have enough confidence in yourself to trade blind, so you turned to indicators (which is a reasonable thing for a relative newbie to do). so what is "fast"? what do you use now that is so much faster than indicators? basically, speed in this case is irrelevant.

2) and therefore impede your performance

If you use them as signal providers, no matter how fast they are they will impede your performance. Again, speed is irrelevant if you understand that everything on that chart that isn't the actual current tick is past data and therefore "slow."

3) Self validating due to infinite arrangements

lol what? infinite arrangements of price? data?lines and bars? everything on that chart is self validating (requiring no external confimation). that's the whole poiunt of indicators, to validtae what you were already previously thinking/seeing. but then again, if you are using them for signals, then yes. they are self validating and therefore inconsistent or unreliable.

4) Give you confidence when you shouldn't have any

so you're saying that anyone in the market shouldn't have confidence. ok. that's the only thing i get from that statement, because you're basically saying that no one should have confidence period. interesting. i guess no one can really trade and that it all is just the magical water sprites controlling the forces of nature that make the price move. nope.

the whole point of indicators (yet again, i feel like a broken record repeating myself) is to confirm what you were already thinking, or in other words, give you confidence about your current view of the market.

5) Help you become a sucker

i think you did that entirely on your own buddy. whether you like it or not, indicators are pieces of code, not a little demon sitting on your shoulder whispering, "become a sucker! become a sucker!" lol. whatever you did was entirely your choice or your own fault for being mislead.

just because you didn't use something right doesn't mean it's broken or a lie.

They say that you have to choose the right tool for the job. That applies to the use of indicators, too. Before you can even do that though - you have to know what that job is. The tool can't tell you what the job is. I would say that, even then, someone who uses it properly wouldn't even really need it. Just really more a matter of convenience than anything else. The exception would be if you were using the indicator as part of an EA.

Quoting Rabid

Disliked

Ragging on indicators is hip and trendy. It's the popular thing to do. But in the proper context indicators can be very useful.

Ignored

I'm right there with you Rabid! I think MACD a (if not, the most) popular indicator that most "experenced" trader's tend to "hate" on. The most basic and effective strategies I've ever used was using the MACD with Candle Price Action by only buy/selling based on MACD histogram. If you are SELL-Only trader, only sell if the MACD Histogram is below the "0" level. The trader will then Close-out the order when the Histogram "peaks".

I've traded and believe this is a great, simple indicator trading and shows how one indicators (MACD) could assist a traders in showing signs of entry/exit.

Nice post!

I knew there would be trade examples to prove that indicators work. Don't you see how subjective they are. I could for ANY price justify my trades with indicators, all you have to do is tweak the settings or time frames. Also
Jhig, isn't reading candles more about price action? (PS I agree with what you are saying). Craig thanks for you reply, I agree with some of what you are saying, like the use of ATR for a measure of volatility. Guess what I wanted to communicate is that indicators can be little more than guidelines at best. I don't use any and am doing just fine ( better that if I used them ).

Important point : Indicators are SUBJECTIVE

Using price action is objective, this means that everyone is on the same page, which is what makes it useful. Eg// Horizontal Support and Resistance... you can't tweak it.

Blacksun1... You are very funny. Thanks for that buddy.

Sure, everyone looks at PA the same way, it's objective and you can't tweak it. LOL.

Fxsurfer... you right!!! Guess i'll start trading only on a full moon or when is high tide! Like a "surfer dude!"

Except the examples I've posted are examples I routinely use in real time trading. I've taken longs and shorts on them, and I'm profitable. I do have a few other setups that I use too, but I routinely use MACD to confirm what other things are telling me. I use 2 MACD setups primarily, 3/9/1 and 9/21/1, and both work extremely well in the right settings. As always it goes to context, and that's the difference between experience and inexperience... the ability to quickly recognize the context that the market provides.

If all you do is backtest and over-optimize, yes you'll have problems. Take time and forward test these things, they are not arbitrarily chosen. Again, it's all in how you use them. The great thing about trading is that you are completely in charge of when to take trades, the bad thing about trading... is that you're completely in charge of when to take trades.


Sure you can tweak it. S&R is just as subjective. There's no such thing as a support line, or a resistance line. There are zones, and how you draw them and what prices you include in them is completely subjective. Furthermore the lines you'd draw and the lines I'd draw are going to be different, and the market may or may not respect either of them.

If you go to some of the price action threads on here, and look at some of the stronger "naked trading" advocates you'll see that even they use indicators in various places. Even more so, those people who are strong proponents of price-action only trading tend to focus across a broad range of markets, as the particular setups they trade only come along once in a while. There's no problem with that, it's just that not everyone wants to get involved in stocks or futures, especially with the kind of leverage restrictions and margin requirements.

Some of the most advanced traders on the planet, a few of whom I've had the pleasure of meeting and learning from, use indicators in one form or another. That's not to say that you couldn't do the same without them, as you certainly can once you train your eye to see the patterns in price, but it doesn't hurt to have an objective metric that doesn't rely on the subjectivity of price interpretation if that's the way your brain works.

Trading is very personal. What works for one person may not work for another. You could not take my methods and replicate them into profitability, just as I could not yours. But to say that only your method works is short-sighted.

Well, yes, they are subjective, and they are subject to tweaking and backfitting data, but the point Craig and others were making is that if you understand how they work, what they are based on, and are able to use them correctly they can be a great aid. Using a stochastic will get you killed in a trending market, but it can be very good in identifying points of exhaustion in ranging markets. And of course, you don't NEED one to do this, but the point is that it can aid you in visualising what is occurring, but one must confirm to the best of their ability that what the indicator is displaying is actually valid for the market they are trading.

Thanks for your post Rabid. I find your argument insightful, but I'd be willing to take a bet that it's not the indicators that you use that make you a good trader, its everything else. Psychology, MM, understanding mass expectations etc... You've obviously mastered these thing.
I agree, trading is very personal.... I wish you well.