Every Forex trader knows that you must supplement the information in your charts with a number of technical indicators. Among the indicators commonly used are strength indicators, volatility indicators, trend indicators and cycle indicators. These indicators not only help us determine in which the market is moving, but also when a trend is about to end and we should either exit the trade or, with a good signal, reverse the trade.
The following 6 indicators are the most commonly used among Forex traders:
Stochastic oscillator – The stochastic oscillator helps a trader determine the strength or weakness of a currency by comparing the closing price to a price range over a period of time. When the trader identifies a high stochastic that said currency may be overbought and you should go short or bearish. Conversely, a low stochastic indicates that a currency may be oversold and you should go bullish or long.
Bollinger Bands – Bollinger bands contain the majority of a currency’s price between the bands it displays. Each band has three lines – the lower and upper lines show the price movement and the middle line shows the average price of the currency. When the market is experiencing high volatility, the gap between the lower and upper bands will increase. In you candlestick or bar chart, the currency is considered overbought if a bar/candlestick touches the upper band and oversold if bar/candlestick touches the lower band.
Average Directional Movement (ADX) – ADX is used to determine whether a currency is entering into a new uptrend or a downstrend. The ADX is also used to determine how strong the trend is.
Relative Strength Indicator (RSI) – RSI uses a 0 to 100 scale to indicate the highest and lowest prices over a period of time. When prices of a currency rise over 70 the currency is presumed to be overbought. On the other hand, a price below 30 would most likely indicate that a currency is oversold.
Simple Moving Average (SMA) – The SMA is the average currency price for a given period of time compared to other prices during the same time periods. To illustrate how SMA works, the closing prices over a 7 day period will have a SMA equal to the addition of the previous 7 closing currency prices divided by 7.
Moving Average Convergence/Divergence (MACD) – MACD is another oscillator that shows momentum of a currency as it relates to the two moving averages. As we discussed in previous articles, when the MACD lines cross, that crossing may indicate the start of an uptrend or a downtrend.