Technical analysis refers to all the trading tools and theories used to forecast future price levels. Some investors use trend strategies, some trade using reversal patterns, and others use trading theories. In all cases, investors try to predict future price movements when, for example, taking long positions or when shorting a currency pair.
These days trading platforms come with a full range of indicators. Now that the personal computer (PC) governs our lives, it is quite straightforward to apply indicators to a price chart.
There are two types of indicators; trend indicators and oscillators. While they have different interpretations, they serve the same purpose: helping investors predict future price direction.
Most Popular Trend Indicators
As the name suggests, these indicators follow the primary trends. They divide markets into bullish and bearish, and investors use them to buy the dips in bullish trends or to sell the spikes in bearish ones. Trend indicators always appear on the main chart window. They stay close to the price, so the trend is always visible. The default trading setup on the MT4 platform – a popular choice among retail Forex investors – offers no less than seven trend indicators. Typically, there is only one trend in a currency pair and timeframe and there is no need to use all indicators on the same chart to detect a single trend. For this reason, each investor chooses to use an indicator that best fits their trading strategy. As well as the indicators that come with the default settings, investors can also easily upload custom indicators to the trading platform.
The following trend indicators are well known by all Forex investors:
- Moving Average (MA). There are various types of MAs. The most common one to use is the SMA (Simple Moving Average), but investors use other versions too, like the EMA (Exponential Moving Average) or the DMA (Displaced Moving Average). It averages the prices according to a formula, typically considering the closing price for a specified period. The higher the price, the stronger the MA.
The graph above shows the 50-day MA on the USD/CAD four-hour timeframe. The standard purpose of any MA is to use it to split the market into bullish and bearish sectors. As long as the price stays well above the MA, the bullish trend will continue. When it falls below, a bearish trend will start.
- Bollinger Bands. Developed by John Bollinger, it shows both trending conditions as well as breakouts. Depending on the strategy, it can also be used as a volatility gauge.
- Ichimoku Kinko Hyo. This complex trend indicator has no less than five components and its primary use is to interpret the price in relation with the Ichimoku cloud. The cloud offers support and resistance on future levels projected twenty-six periods ahead.
A quick comparison of the two USD/CAD charts used as examples shows us that the price reaches support or resistance at almost the same level, despite two different trend indicators being used.
These are only some of the trend indicators used in technical analysis. The Parabolic SAR and ADX (Average Directional Movement Index) are two more trend indicators. In the end, investors will decide which indicator best fits their underlying strategy.
- Most trend indicators appear on the main chart window.
- They provide support and resistance levels while also dividing the market into bullish and bearish.
- Investors often buy the dips and sell the spikes.
- Indicators help investors ride strong trends on various timeframes.