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TOP FOREX INDICATORS TO USE

When you embark on the journey of becoming an expert in trading the markets, you will most probably be
bombarded with a swarm of different trading methodologies. Some of these trading methods will use
technical analysis and indicators and some will be based on fundamental news.

In the beginning of trading, pit traders had to calculate pivot points, support and resistance levels on paper.
This tedious process has since been replaced with technical indicators that come with most charting
software.

Technical indicators are very popular amongst novice Forex traders. This is because they are very easy to
interpret and to an inexperienced novice, they look accurate on a chart.  More on this later

In this article, I will present a non-biased review of some of the most popular forex technical indicators.

Understanding how and when to use them will propel you from a novice trader into a pro trader.

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So, this article will present the following:

1. A round up of the most popular forex technical indicators

2. The distinction between leading and lagging technical indicators
3. A list of the most popular forex technical indicators
4. Their back tests results and reliability analysis
5. Conclusion that wraps up the entire discussion
Our top listed Forex Technical Indicators include:

1. Relative Strength Index (RSI)

2. Stochastic Indicator
3. Bollinger bands
4. Ichimoku Cloud
5. Moving Average Convergence Divergence (MACD) Indicator
6. Commodity Channel Index (CCI) Indicator
7. Moving Averages
8. Pivot Points
9. Support and Resistance
Are you ready?

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Let’s jump right into it, shall we?

So

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What are Forex technical indicators?

Based on different mathematical calculations, forex technical indicators are statistics of past market data.
Traders use them extensively in their technical analysis to predict currency trends.

The two major technical indicators are:

Trend following indicators

They reflect the direction and the strength of a current trend.  Traders may enter a position when the trend
following indicators are showing the current trend in a strong momentum in either direction. The most
common trend following indicators are moving averages and Bollinger bands.

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Oscillators
are indicators banded between two extreme values that reflect short term overbought or oversold
conditions.  The most common oscillators are RSI (relative strength index), MACD (moving average
convergence difference) and stochastic oscillator.
Most charting packages usually include the common forex technical indicators, or you can find a charting
package and add the indicators that you want if they aren’t included. These ones can be coded or developed
by a trader or a programmer and be added in some charting software and used for trading.

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An example of a price chart bearing custom indicators

You will probably use a mix between the trend following indicators and the oscillators. Use whatever you
are comfortable with.

Remember
Forex Technical indicators are calculated using historic price feeds.
They are all derivative of the same data – high, low, open, close
There is no other data in your trading platform other than these 4 pieces of data.

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so

All technical indicators are being fed by the same data hence they are ALL the same ( REALLY )

What are Leading Vs. Lagging Indicators?

Based on how they respond in relation to price, technical indicators can be grouped as

 leading
 or lagging
Leading indicators give their signals BEFORE a new trend has started. They “project” the price levels into
the future
While lagging indicators can only provide “today’s “value based on the historical data

Since these indicators lag the price of the asset, a significant move in the market generally occurs before the
indicator can provide a signal.

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Examples of leading indicators include

1. Support and Resistance

2. Trend lines
3. Pivot Points
While lagging indicators include

1. MACD,
2. Moving Averages,
3. Ichimoku Kinko Hyo,
4. CCI, Stochastics,
5. RSI among others.
It is really important for a trader to understand how the technical indicators work and how the data is
compiled before incorporating them into trading strategies and risking capital on those strategies.

Most lagging indicators look very profitable on the chart AT FIRST GLANCE
This is because they lag and repaint. In real time, the signals generated by them are totally different.
This is because the real time data used for calculations is different.
Once the price moves along, past values are re-calculated and re-painted on your charts.

Remember

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The price moves indicators – not the other way around.

This is why they are called lagging and this is why they repaint.

This is why they always look profitable when you look at them at the left hand side of the chart when the
price action is already unfolded.

Leading indicators are different

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By using leading indicators like support and resistance, trend Lines or Pivot Points; you
can “project” important price levels into the future.
Traders looking at the same support or resistance levels are likely to act when the price approaches these
levels.

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By using support or resistance, the trader can “project” an important price level in the future where a lot of
orders are likely to be placed and move the price

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By using trend lines, traders can “project” an important price level in the future where a lot of orders are
likely to be placed and move the price

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This is self-fulfilling prophecy at work.

An Awesome List of the Most Popular

Forex Technical Indicators
I guess you use some forex technical indicators in your trading?

Do you know how probable or accurate the indicators are that you use?
For example, let’s take a classic stochastic indicator;

If the indicator goes

 below the 30 line, we buy and

 If it goes above the 70 line, we sell
This is a classic use of the stochastic indicator. It’s obvious to most traders, right?

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Sadly, nobody is able to tell me how the indicator performs in real time.

What is the probability of a stochastic oscillator generating a winning trade?

Would you still use it if you knew that the probability is 50% or less?

You would be better off not to use it and pick the trade randomly, your probability would then increase to
50% (random coin flip).

so

I looked at 9 of the most common indicators;

I used the visual mode in MT4 strategy tester to mimic the real time behaviour of the indicators. As they are
lagging indicators, it’s totally pointless to test it on a price action which has already unfolded.

Remember this is only a representation of some of the most common forex technical indicators.

Now let us review them one by one:

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1. Relative Strength Index (RSI)

What is it?
 defines RSI as being a momentum indicator that is often used to measure the magnitude of historic price
changes to determine overbought and oversold conditions in the price of any trade-able asset.
How is it calculated?
RSI can be calculated by following these steps:

1. Pick the number of periods that you would like to base the study on. For example, period 14
2. Pick a pair like EURUSD and compare today’s closing price with yesterdays
3. Find the total of all upward movements in points between the two closing prices.
4. Find the total of all downward movements in points between the two closing prices.
5. Calculate the exponential moving average both for the upward and downward price movements
6. Then calculate the relative strength (RS)
RS is given by EMA (for both upward and downward price movements)

Finally, the relative strength index (RSI)

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RSI= 1/(1+RS)

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Sounds confusing?

Worry not, you had to know how it is derived but you will not be expected to manually calculate this,
thankfully, your trading platform will do this automatically for you

Is RSI a leading or lagging Indicator?

It gives its signal after the real move has happened, so it is a lagging indicator

How does it work?

RSI is used as a momentum indicator which enables traders to spot overbought (when the RSI goes above
70) and oversold (when RSI goes below 30) conditions in a trade-able asset.

Signals and strategies

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Typically, you should be looking for buying opportunities when RSI crosses below 30 and look for selling
opportunities when it crosses above 70. Here are some examples of RSI based trading strategies. You can
try them out and let me know what you think.
Reliability after testing

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From the results above, you can see how low the win rate is for this indicator. 45% is just too low, you
would do better with a coin toss.
Biggest Advantage
It is smoothed because it uses exponential moving averages and as thus, it is more consistent that other
oscillators.

It is very popular – many traders watch it, hence a lot of orders might go in at the RSI levels

Biggest Disadvantage
It is a lagging indicator which means it might not give you reliable signals in real time.

2. Stochastic Indicator

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The Stochastic indicator is a momentum indicator which is often used by traders to compare the closing
price of assets to its price range over a specific period of time.

So, how is it calculated?

The indicator is calculated using the formula

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Where %K tracks the most recent market rate for the asset

C is the current closing price

H14 and L14 are the highest and the lowest price traded during 14 previous trading sessions respectively

%D is the 3-period simple moving average of %K. It is called “Stochastic slow” because it responds slower
to changes in market price compared to %K.

Make sense?
No need to worry, your charting software will calculate it for you.

Is it a lagging or leading indicator?

Like its brother the RSI, stochastic is also a lagging indicator.  It gives its signal after the move has already
happened and is not reliable in real time

How does it work?

The Stochastic indicator DOES NOT show overbought and oversold conditions. It is a momentum indicator.

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When the indicator crosses above 80 that do not mean that the asset is overbought.  When it crosses below
30 that does not mean it is oversold.

Please take note, this is where most traders mess up and blow their accounts.

Don’t rush to sell the market when you see the indicator crossing above 80.

Remember an overbought market can be bought further.

Only sell that market once the indicator crosses below the 80 line and is confirmed by a leading indicator.

Note: Stochastic works best in a TRENDING MARKET

Signals and Strategies Generated by Stochastic Indicator

 Buy if: Oscillator is under the 20 line and crossed upwards

 Sell if: Oscillator is above the 80 line and crossed downwards
You can set your stop loss at 50 pips from entry and take profit at 50 pips

Is it reliable?

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We will gauge its reliability by considering these 20 trades. Anything above 50% is considered to be
reliable. The higher the accuracy the more reliable it is.

Looking at the results above you can see that the win rate stands at 50% thus not reliable
Biggest advantage: Used with price action and support and resistance levels, it can help a trader catch a
good trade
Biggest disadvantage: It is a lagging indicator meaning that it shoots its signal after the move has
happened.

3. Bollinger bands

A Bollinger band is a very popular indicator that is often used by traders to trade. It is a momentum
indicator which can be used to check if the market is trending or ranging.

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Bollinger bands comprise three lines- a simple moving average (often called the middle band) and two lines
(outer bands) plotting two standard deviations (positive and negatively away from the middle band).

Note: Settings for the Bollinger bands can be changed in line with the preference of the user

How is it calculated?

 The middle band is calculated by taking 20 previous periods to get the simple moving average

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 The outer bands are calculated by taking 2 standard deviation positive and negative to get the upper
and lower band respectively
Is it a lagging or leading indicator?
Bollinger bands are lagging indicators because they give their signal long after the move has happened.

How does it work?

Traders use the Bollinger bands in different ways:

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 Some look for a squeeze then take the trade in the direction of the breakout.
 Some look for a bounce off the outer bands and buy or sell until the price comes to the middle or
opposite band.
 Others wait for the price to break past the outer bands
Signals and strategies

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As mentioned, there are many ways of trading using the Bollinger bands. Personally, I trade it as follows:

Buy if a full candle completes above the simple moving average (middle band) with stop loss below the
high of the previous candle
Sell if a full candle completes below the simple moving average (middle band) with stop loss above the high
of the previous candle
Note: Bollinger bands work best in trending markets but can be used with a leading indicator to trend both
ranging and trending markets.

Reliability:

As you can see from the results above, the accuracy for this indicator stands at 50%
Biggest Advantage: Can be used with leading indicators to catch nice moves in the market
Biggest disadvantage: It is a lagging indicator and thus, it should not be traded alone.

4.Ichimoku Cloud

The Ichimoku cloud also known as the Ichimoku Kinko Hyo indicator can be used to determine support and
resistance, trend direction and momentum for an asset.

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The indicator has five different components:

 Tenkan-Sen – the conversion line

 Kijun-Sen – the baseline
 Chikou Span- lagging span
 Senkou Span A- leading span A
 Senkou Span B – leading span B

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Note: The cloud (Komu) is formed by Senkou span A and Senkou span B

How is it calculated?

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It involves 5 calculations as shown under:

 Kijun-sen = (26-day high + 26-day low) / 2

 Tenkan-sen = (9-day high + 9-day low) / 2
 Senkou Span B = (52-day high + 52-day low) / 2
 Senkou Span A = (Tenkan-sen + Kijun-sen) / 2
 Chikou Span = Close plotted 26 days in the past
Complicated yes? No need to scratch your head doing all these. Your charting platform will do it for you.

Is it a lagging or leading indicator?

Similar to all the other indicators discussed above, the Ichimoku Cloud is a lagging indicator.

How does it work?

 When price is above the cloud, this indicates an uptrend

 When price is below the cloud, this indicates a downtrend
 When Senkou span A crosses above Senkou span B the trend is up and getting stronger, the cloud is
positive

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 When Senkou span A crosses below Senkou span B the trend is down and getting stronger, the cloud
is negativ
Signals and Strategies generated
To buy wait for the following:

1. Price to break and close above the cloud

2. Conversion line to cross above baseline
3. Buy at the open of the next candle after the crossover, set your stop loss below the breakout candle

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Note: You can use the same rules as above for SELL but in reverse

Also remember: Ichimoku cloud works best with a trending market

Reliability

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Based on the results above, you can clearly see that this indicator gives more losing trades than winning
trades
Biggest advantage: Ichimoku cloud is an all-in-one technical indicator meaning that it can be used alone to
make trading decisions
Biggest disadvantage: Ichimoku Cloud gives its signal long after the real move has happened.

5. Moving Average Convergence Divergence (MACD) Indicator

MACD is a powerful indicator that is often used by traders to check for price momentum, price trend and
direction. This awesome indicator has three components, two moving averages (signal line and MACD line)
and a histogram.

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How is it calculated?
MACD is calculated by taking the 12-day Exponential Moving Average (EMA) and subtracting 26-day
EMA from it. This calculation uses the closing prices for the two EMAs. Then a 9-day EMA is added to
give the signal line.

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MACD is a lagging indicator meaning that it gives its signals long after the real move has already
happened.
How does it work?
The various components of this versatile indicator can be used to gauge price momentum, price trend and
direction.

Signals and Strategies Generated

There are many different MACD trading strategies. Let us look at an example of such strategies
MACD Divergence

Divergence happens when price action is doing the exact opposite of what the MACD is doing.  For
example, if price is forming lower lows and MACD is forming higher lows, this indicates the formation of a
strong bullish signal and the opposite can be considered for a bearish signal.

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The chart above shows an example of a bearish divergence which yielded that sweet bear move

Take note: MACD works best in a TRENDING MARKET environment

Reliability

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MACD appears to be more reliable than the indicators that we have back tested before
Biggest advantage: It can be used either as a standalone indicator or be used with other leading and lagging
indicators.
Biggest disadvantage: MACD shares the disadvantage of being a lagging indicator with all the other
lagging indicators. This means that it usually generates signals long after the real move has happened.

6. Commodity Channel Index (CCI) Indicator

This versatile indicator can be used to help you, the trader to identify a new trend or beware of extreme
condition. Initially, the CCI indicator was developed for use in trading commodities but today it can be used
for trading equities, indices, currencies and other assets.

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How is it calculated?
The CCI is calculated using the formula below:

CCI= (Typical price (TP)- 20-period SMA of TP)/ (0.015 X Mean Deviation)

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Where TP is typical price and is given as = (High + Low + Close)/3 and 0.015 is a constant

The mean deviation is calculated as follows:

1. Find the most recent 20- period average of TP and subtract it from each period’s TP
2. Find the absolute values of these numbers

 Find the sum total of these absolute values

20. Divide the total by the number of periods which in our case it is 20.
How does it work?
CCI is an oscillator which moves to the upside of the baseline marked 0 or the downside. Traders use it to
spot buying and selling opportunities

Signals and Strategies

 When CCI crosses above +100, a new and strong uptrend is beginning which signals a buy
 When CCI crosses below -100, a new and strong downtrend is beginning – look for a sell setup.

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Here are some examples of trading strategies  that are based on the CCI. Try them out.
Take note: CCI is a lagging indicator and as thus it will most definitely give signals after the move has
already happened. For best results, use CCI in a trending market environment
Reliability

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As seen from the results, 55% is just above average. So, we can say it is somewhat reliable
Biggest Advantage: CCI is very easy to use with very simple rules that anyone can follow
Biggest Disadvantage: It can produce multiple false signals when the market is choppy leading to losses.

7. Moving Averages

Moving averages are some of the most popular technical indicators used by traders to analyse the markets
and take a trading decision.

There are two main types of moving averages:

1. Simple moving average (SMA)

2. Exponential moving average (EMA)

Some popular SMAs include 5 SMA, 10 SMA, 20 SMA, 50 SMA and 200 SMA.

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Take note: SMAs are lagging indicators and they work best in combination with leading indicators in
a TRENDING MARKET environment
What does an SMA do?
SMAs can be used to determine trend direction and to take trades when two SMAs crossover each other.
The SMAs are also used as dynamic support and resistance
Strategies and Signals

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An example of an SMA trading strategy has been captured here. The rules are pretty simple. The trader uses
two SMAs

1. 200 SMA is used to determine trend direction, if price is above it its bullish, if below it is bearish.
Look for buys in a bullish market and look for sells in a bearish market.
2. 50 SMA is used to pick the trades, when the market closes above it for the first time wait for the
market to come back and retest it then take your buy.
So, here are the rules

 Buy if the price is above 200 SMA and it has touched or bounced off from 50 SMA. You can set your
stop loss at 25 pips from entry and Take profit at 50 pips from entry
 Sell if the price is below 200 SMA and it has bounced off 50 SMA. You can set you stop loss at 25
pips from entry and Take profit at 50 pips from entry

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Looks good yes? Well, why don’t you head over to your charting platform and plot the SMAs.  Try and
identify potential trades.

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Remember: SMAs are lagging indicators and should be used together with a leading indicator for better
results. SMAs work best in TRENDING MARKETS.
Reliability

Its reliability stands at 60%

Biggest Advantage: It is one of the simplest trading systems out there.
Biggest Disadvantage: It lags and if used inappropriately can lead to fake trades and late entries.
Up to this point we have been looking at LAGGING INDICATORS

Let us now shift gears and look at two examples of LEADING INDICATORS

Are you ready?

Let’s go

8. Pivot Points

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Pivot points are the first example of leading indicators. They represent support and resistance levels where
the direction of price movement can potentially change.

How to calculate Pivot Points

Pivot point are calculated as shown below:

Pivot point (PP) is given by taking the sum of (High + Low+ Close)/3
The value of the PP is used to calculate support and resistance levels

R1 which is first resistance= (2 X PP) – Low

SI which is first support= (2 X PP) – High

R2 which is second resistance= PP + (High – Low)

S2 which is the second support= PP- (High – Low)

R3 which is the third resistance= High + 2 (PP – Low)

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S3 which is the third support= Low – 2 (High – PP)

Take note: Some charting platforms can plot intermediate levels called mid-point levels

How does it work?

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Being a leading indicator, you can use it to anticipate a bounce when the price hits it. See the chart posted
above.

Use Monthly pivot to trade signals on H4 or Weekly pivot to trade signals on H1

Signals and Strategies

Pivot Bounce

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1. Open a 4-hour chart for EURUSD

2. Apply the monthly pivot

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 Wait for the price to hit and fail to close below or above a PP or a mid-PP
 Buy when it fails to close below and set a stop loss of 50 pips and a Take profit of 100 pips.
 Sell when it fails to close above and set a stop loss of 50 pips and a Take profit of 100 pips.
Point to note: Pivot points work best in RANGING MARKETS
Reliability 

From the results we can see that pivot points have a high accuracy rate
Biggest advantage: Pivot points are leading indicators meaning that traders can catch the main move as it
happens.
Biggest disadvantage: Pivot points are not 100% accurate

9. Support and Resistance

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Support is defined as an AREA on your chart where there is substantial buying pressure while resistance is
an AREA on your chart with a potential selling pressure. In some places, you will hear people referring to
support as floor and resistance as roof.

How does it work?

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For you to understand how support and resistance works, you first need to understand that markets are either
in a trend or a range at any given time. With that in mind, you can go on and plot your support and
resistance levels.

How are they calculated?

These can be calculated in two ways

1. Based on the calculation of the tool/indicator used to locate support and resistance. If you use pivot
points or moving average, use the formulas we have already discussed above.
2. You can also draw support and resistance using the horizontal line and trendline tools found on your
charting software.
Are they leading or lagging indicators?
Support and resistance are leading indicators because you can see them long before price hits them allowing
you to plan your trades in advance.

Also note:
Support and resistance work best in both trending and ranging market conditions
Signals and strategies

 Combine the support and resistance strategy with multi time frame analysis

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 Spot the potential support and resistance areas on your charts

 Wait for the price to come to the area and break it or bounce from it
 Enter your trade and set your stop loss a few pips (we use 25-50 pips) away from entry and take profit
at 2 times your stop loss

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Check out how I trade support and resistance here

Reliability

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A strategy with a win rate of 70% is quite accurate and worth trying out
Biggest Advantage: Support and Resistance are easy to spot and can be very profitable if combined with
multi time frame analysis and price action
Biggest disadvantage: Support and resistance does not hold forever and can lead to losing trades if not
traded cautiously. It is subjective in nature and hard to pin down in real time trading.

Conclusion

The point to drive home is that a trader needs to use statistics and numbers to figure out what works and
what doesn’t.

Use maths and statistics to recognise and dump things that look OK on the surface but are in fact dragging
you and your money down the drain.

I use only a few indicators, mainly leading ones as an addition to my price driven strategy.

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The starting point for me is always the Fundamental analysis measured by Commitments of Traders and
Risk Events Calendar
Before even thinking about entering a trend trade, I want to know where is the price is likely to go in the
long term and what big institutional traders are doing in the market

The only indicators I would recommend to you are

Multi-Time-Frame Stochastic 
Momentum indicator. This indicator draws me higher time frame stochastic on lower time frame, ( daily
stochastic on 4 hrs time frame). I CONSIDER only long entries when the daily stochastic is oversold on
lower time frames and short entries if the daily stochastic is overbought on lower

Pivot Points 
Over sold/bought indicator. Probably the oldest indicator on the planet.

Draws the future levels based on the average price in the past.

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I exit my long positions around high pivot points and exit my short positions on low Pivot Points.

I also use central Pivot Point as a reversal signal on lower time frames.

Single Currency Strength Index 

This is a weighted index of the single currency.

This allows me to see if the currency is strong or weak against the basket of other currencies rather than
comparing in to another single currency

Support and Resistance

Supply and Demand indicator. Any successful trader has to have a thorough knowledge of support and
resistance.

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I NEVER sell the support or buy the resistance.

Only buy support in a rising market or resistance in falling markets

Fibonacci Retracements
Retracement indicator. Measures potential retrecement size. Markets tend to get exhausted around 38%-
50% retrecement zones most of the time.

I consider 38%-50% retracement as a mature support zone and look to buy the rising markets.

Candlesticks

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 Your solution for financial congestion

Supply and Demand indicator. Shows the sentiment and a struggle between bears and bulls. Best used on
daily charts.Engulfing candles show the sudden sentiment change on the market and often follows with
lower or high prices.

You should do two exercises:

#1 If you have a strategy at the moment, do you know:

 What is the accuracy of your strategy?

 What is your risk and reward ratio?
 What is your pay-out?
 How can you make the above metrics better?
#2 go through all indicators you use today and calculate how accurate they are.

 Do they really help you to achieve results or they are only clouding your perception?
 Dump those that don’t work, replace them with those that do.
Indicators should not be traded in isolation, use them to build and trade your strategy.

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 Your solution for financial congestion

Indicators are price driven and not the other way around.

Used in the right context, indicators can help you determine entries, exits and lower your risk.

Take caution not to be too dependent on indicators. Spend some time learning how the markets work.

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