Technical Analysis 101 | What Are the 4 Types of Indicators?
Trend, Momentum, Volatility and Volume Explained.
Technical analysis (TA) is said to have first been used in Asia in the 18th century, where the first ever case of using candlestick patterns was recorded. Since then stocks, forex and, more recently, our beloved cryptocurrencies have been studied by thousands of analysts through the scope of technical analysis. Indeed, this has led to a unique type of investor, the technical analyst.
TA basically consists of analyzing past market data, mainly price and market volume, to forecast future patterns and directions of the price with the intent of profiting from this insight. A technical analyst applies a mix of technical indicators when studying price movements. These are mathematical calculations, based on past data of a certain asset, which give some insight about potential price directions.
Unlike fundamentalists, traders operating purely according to a TA strategy, only examine pasts price patterns and data through charts hoping that these ones will be repeated in the future. They prefer to move away from looking at the fundamental value of an asset, believing rather that history repeats itself and that trading behavior can be mapped out.
Technical indicators can be divided into 4 unique groups, with individual philosophies into how prices can be forecasted. These 4 groups are trending or moving averages, volatility, momentum and volume indicators. Every one of these groups has in common the goal to uncover insight into the future prices of the assets they’re trading.
Trend indicators boil down sporadic and varying candle prices into a single uniform line. The idea is to pinpoint and follow trends to foresee when they might reverse or range, and then base a trading decision off of that.
The vast majority of indicators that are considered trend indicators are moving averages. These are calculations that generate price averages for the last “X” periods to identify a trend line. The philosophy behind trend lines is that prices may go up and down across different candles, but if you calculate an average, you can see whether the aggregate of all candles indicates an upward trend (increase in price) or a downward trend (decline in price). With this insight, you can also figure out when an asset will reverse in trend, or when it’s ranging (moving sideways) since most of these indicators lose money when the price ranges.
The most representative indicators to identify trends are the followings: Moving Averages, that are mainly divided into 2 types: Simple Moving Averages ( SMA) and Exponential Moving Averages ( EMA). Next, MACD, one of the most popular trend indicators, is commonly used to reveal changes in the strength and direction of the trend. Finally, KAMA is formed by two moving averages and an efficiency ratio to recognize trending and ranging price trends more accurately.
The momentum measures the speed and strength of the price movement. It compares the current closing price with this one a certain amount of periods ago. Momentum indicators´ key levels are 100 or 0 (depending on the indicator), when the levels rise above 100, it means that the current price is above the price “X” periods ago. Then, if the current level is 102 and the previous one was 101, it suggests that the price is moving quicker upwards than before.
Momentum indicators on their own don’t provide much information about future price movements since they mainly tell us if the price is trending up or down and if it is considered overbought or oversold based on past price ranges. They are commonly used along with other types of indicators such as moving averages to give stronger signals.
Some of the most representative momentum indicators are: Stochastic and RSI, are used to measure overbought and oversold price levels setting a range from 0 to 100; Stochastic RSI ( StochRSI), is a combination of both and is designed to enhance sensitivity and generate more signals than the indicators separately.
Volatility indicators measure the volatility of the price, indicating when a market is more volatile and more volume is entering in it. Then, when the price is more volatile, it has fewer ranging possibilities, thereby forcing the price to start trending and favoring longer positions.
Traders love volatility. It moves the price creating trading opportunities and is usually accompanied by more volume. Markets with little volatility are considered boring and not profitable, as well as very possibly more illiquid.
The most common volatility indicators are the followings: Bollinger bands, compounded by three lines, measures the price volatility through the width of its standard deviations bands (upper and lower); Standard deviation, indicates how widely prices diverge from its average price, plotted by a line at the bottom of the graph; ATR, works is a similar way and consists of a line measuring the volatility level.
The volume indicates the number of contracts traded for a certain asset in a period of time. These ones will help you measure the strength of a trend and its direction. Traders like volume since, similarly to volatility, it creates trading opportunities. On the other hand, they try to avoid low volume periods since the price might be ranging which may lead to either low profitable trades or negative ones.
In forex and stock markets the period of trading is very well defined due to most of the traders operate at the beginning of the European, American and Asian market, that is, when the volume is higher, the market is trending more and there is more liquidity.
Regarding volume indicators, the most used one is simply the market volume, it measures the number of contracts traded in a period of time. This indicator (that actually is not an indicator since it doesn’t imply any calculations) is one of the most used to analyze the market. It gives a very good insight of when and where the volume appears in a market. On Balance Volume( OBV), represents market volume linked with increases in the price, indicating that every time that the volume and price rise simultaneously, the price is probably being bought by the institutional investor, not the retailer.
These are the most representative group of indicators. Most of the existing indicators are included or are variants of these four groups. In Cryptohopper you can trade with up to 130+ indicators that provide different information. Combine them in the strategy designer until you find the strategy that best fits your trading style!
Ready to start trading with Cryptohopper? Start here