Even the most ardent fundamental analysts sometimes peek over their fence to look at what the latest indicators and tools their technical counterparts are using. Those who put their trust in following trends, determining patterns and letting price movements direct their trading decisions all have a stack of go-to technical analysis tools at the ready. FXTM Senior Staff Writer Samantha Robb takes a closer look at the five most frequently used tools by analysts.
There’s no order of preference here, and there is, of course, an innumerable amount of tools that play an elemental role in trading strategies that are not included in the list. These five, however, appear in practically every trader’s toolkit. So without further ado, let’s get to it!
- Moving Average – the MA
The MA encompasses a broad range of indicators under its name, including Simple MA, Exponential MA and Weighted MA. Traders use this popular tool in order to remove as much market volatility as possible from irregular price movements (a very common occurrence in the currency markets). By adding all closing prices from a particular time period and then dividing by the sum total of the time periods, traders find the moving average which helps them identify trends and patterns.
- Japanese Candlestick Charting
By far the most popular visual presentation of price movements on a chart (Bar Charts and Line Charts come at distant second and third), this is method was popularised in the 80s even though its history dates back to 18th century Japan. The basic shape of a candlestick, with its body and wick, is used to illustrate the high, low, open and close prices of a particular financial asset. A group of candlesticks together, over a specified time period, end up forming trends that most technical analysts love to follow.
- Bollinger Bands
Invented by renowned technical analyst, John Bollinger, this volatility indicator mimics the form of a Simple MA, with borders (or bands) on either side. Bollinger Bands are widely used because they are great for identifying different levels of volatility, which is obviously a huge help to traders looking for the next big trading opportunity. The narrower the bands, the lower the volatility level, and vice versa. Traders tend to believe in Bollinger Bands a bit too passionately, so it’s worth reminding readers that they should be used in tandem with other technical indicators.
- Fibonacci Retracement
Despite the controversy surrounding Fibonacci Retracement in technical analysis, it still merits its place on this list. Based on the ‘Golden Ratio’ from the infamous Italian mathematician, this indicator measures the distance between a financial instrument’s high and low prices. Once the distance is determined, it’s divided using Fibonacci’s ratios 23.6%, 38.2%, 61.8% and 100%. An advantage to Fibonacci Retracement (as opposed to MAs for example), is that they’re totally static which makes interpreting them much quicker and easier.
- Relative Strength Index – the RSI
We round off our list with a very popular indicators, the RSI. It determines if a financial asset is more susceptible to buying or selling pressure by measuring the rate at which its price is increasing or decreasing. It was a revolutionary development in 1978, by J. Welles Wilder Jr., giving traders a way to see if their instrument was getting oversold or overbought. It’s usually measured over a fortnight on a scale ranging from 0 to 100. If the asset’s price goes over 70, it means its in overbought territory, if it dips under 30 then it’s getting oversold.