Forex indicators are used to confirm price movement and the integrity of particular chart patterns to determine possible price action points. They are basically calculations of price movements, momentum, money flow, trend, volatility. These indicators can either be lagging or leading indicator. A lagging indicator is trend following and basically follows price movements. Leading indicators on the other hand precede price movements and have the ability to predict future price movements.
Forex indicators, as the name implies, attempt to indicate the direction of future price movements based on calculations of past prices and volume studies. They can be lagging or trend following which means they merely follow actual price trends; or they can be leading indicators which have some predictive quality in determining future price directions. Lagging indicators are usually by traders to confirm a particular price trend or a specific pattern that has formed in a price chart and are often used effectively with highly trending markets. Leading indicators on the other hand are used effectively with range bound markets.
It is not the purpose of this article to provide you with an in depth discussion of the most popular forex indicators. There are a lot of free online resources you can tap for this purpose. We shall only give you a short description of each of these popular indicators used by most forex traders. The more important thing is to have a working knowledge of these indicators to appreciate how trading signals are derived from them. You must remember that these indicators have been in use for some time now and traders continue to use them for lack of other options.
Through the many years of their existence, none of these indicators have proven to stand on their own and raking in profits for their users. Amazingly, they are still in use by a lot of traders and there is where its value lies. It always helps to know where majority of traders are putting in their money. That way you will never buck the trend and take a free ride whatever direction the majority of traders will push the prices.
The four most popular forex indicators are as follows:
- Moving Average Convergence/Divergence (MACD)
This indicator makes use of two exponential moving averages to calculate momentum. Momentum is calculated as the difference between the two moving averages. The idea is to measure the short term momentum against the longer term momentum. A positive value for the MACD suggests the price is on the uptrend while a negative value suggests a downtrend. This basically a lagging indicator which means it should only be used to confirm a price trend or a chart pattern that was derived using other indicators.
- Relative Strength Index
The RSI is another one of the most used and highly popular indicator. It is actually an oscillator with values that fluctuates between the ranges from 0 to 100. It is used to indicate whether a currency pair is an overbought or oversold level and is therefore primed for a possible reversal. 70 or higher suggests the market is overbought while 30 or lower indicates an oversold market. However, you should exercise care in the application because even if the RSI is in an overbought or oversold territory doesn’t automatically mean that prices will immediately reverse.
Momentum measures the difference between prices between a fixed interval of time. For example a 10 day momentum can be calculated by taking the difference between the last closing price and the closing price 10 days ago. This gives an indication whether a certain price trend is weakening or strengthening.
- Pivot Points
This is popularly used by day traders trading the forex markets. It is a set of resistance and support lines that are calculated based on the high, low, and closing prices of the preceding trading session. Pivot points are an objective way of determining whether a price will break out or stall and retrace from these levels.