Stock Trading Indicators
Learn how to understand the concept of a stock trading indicator, how it affects your trading results and how to use to your benefit during day trading!
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VWAP Trading
For traders, VWAP can be used as an important guidepost in gauging whether the price of a security is trading above or below fair value based on current volume levels.
For example, if you are watching a stock in which you have an interest, and it is currently trading below its VWAP, you may consider buying that stock as it has been trading at lower prices throughout the day so far.
As a result, you may be able to take advantage of more favorable pricing than what you would get if you bought at the current market price. If this is your strategy, you believe the uptrend will continue eventually.
On the contrary, if you are a momentum trader, VWAP may tell you who has the upper hand: bulls or bears. To that end, you might consider going short when prices are below vwap, or long when they are above.
VWAP Pullback Trade
Bollinger Bands Trading Indicator
John Bollinger created a technical indicator in the 1980s after his own name: "Bollinger Bands". Bollinger Bands resulted from the observation that volatility was dynamic, not static as was widely believed at the time.
The Bollinger Bands' price structure consists of three lines. Knowing these will help you read Bollinger Bands:
- A simple moving average (middle band) is used to identify the intermediate-term trend, usually 20 periods.
- An upper band (upper Bollinger band) is calculated by adding a standard deviation (typically 2) multiplied by a smoothing constant (usually 20 periods) to the moving average.
- A lower band (lower Bollinger band) is calculated by subtracting a standard deviation times a smoothing constant from the moving average.
What Are Bollinger Bands in Trading
Having evolved from the concept of trading bands, Bollinger Bands use a %b and bandwidth to compare the current price of a stock to the previous price height or depth.
Bollinger Bands comprise a middle band with two outer bands. The middle band is always a simple moving average that is usually set at 20 periods and is used because the standard deviation formula also requires a simple moving average (SMA).
The defined period for the standard deviation is exactly the same as the simple moving average.
As you can see from the example above, the outer bands are usually set 2 standard deviations above and below the middle band.
When the markets are volatile, the bands widen (move further away from the average), and during less volatile periods, the bands' contract (move closer to the average).
The basic interpretation of Bollinger Bands is that prices tend to stay within the upper- and lower-band. The area between the two bands is known as the trading range. As prices break above or below the trading range, this can be used to identify potential buying or selling opportunities.
Bollinger Bands Strategy
A Bollinger Bands strategy is commonly used to identify potential trading opportunities using a technique called percent-b, which uses the relationship between price and the upper and lower bands to identify crowding conditions that might foreshadow a significant move in either direction.
Bollinger Bands can also be used for reversals, squeezes, and snapbacks to the middle of the bands. Here are just a handful of Bollinger bands strategies you can employ in your trading:
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Double Bottoms
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Reversals
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Riding the Bands
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Bollinger Band Squeeze
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Snapback to the Middle of the Bands
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Trading inside the Bands
We cover these Bollinger bands strategies more in-depth in our tutorial found here.
How to Read MACD Indicator
The moving average convergence divergence indicator attempts to identify trends and it works by taking the longer-term trend and comparing it to a shorter-term trend.
The basic idea is that when the long-term trend is upward but the short-term trend is downward, a trader might want to look for long positions because the long-term trend will probably reassert itself.
The same logic applies when you have an upward short-term trend and a downward long-term trend. The MACD indicator is more complicated than this, however. A MACD graph shows you three numbers:
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It plots a line that shows you how far apart your short-term EMA and your long-term EMA are — so if there's no difference between them, the line will be at zero.
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Another line shows how far apart your short-term EMA and your long-term EMA are from their EMAs.
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Finally, it plots a histogram showing how far apart those two lines are from each other.
If you want to learn 5 really cool MACD strategies, head over to our tutorial and video on MACD!
Fibonacci Trading Indicator
Fibonacci trading is one of the more popular stock trading indicators. Oftentimes, you’ll see Futures, Forex, and stock markets react to Fibonacci numbers and levels really well.
The widespread availability of the Fibonacci number sequence can be applied to just about any market in order to determine how far the price might travel in a given timeframe.
However, while the fact that this method works is not really in dispute, there are a variety of different ways that Fibonacci numbers can be applied to the price action on any given chart. And as with any other trading approach, some of these methods will work better than others.
Fibonacci Sequence for Stocks
The Fibonacci sequence for stocks is a series of numbers where a number is found by adding up the two numbers before it. Starting with 0 and 1, the sequence goes 0, 1, 1, 2, 3, 5, 8, 13, 21, 34, and so forth.
The formula looks like this:
xn = xn-1 + xn-2
These proportions are often found throughout nature and are known as the Golden Ratio or Golden Mean. It has been used to describe natural phenomena such as nautilus shells and spiral galaxies.
A Fibonacci retracement uses key Fibonacci levels as support and resistance before it continues in the original direction of a trend. Fibonacci retracement levels are plotted with these same key numbers identified by Leonardo Fibonacci in the 13th century.
These levels are derived from a mathematical formula and are found by taking points in price that will divide the vertical distance between significant troughs and crests in proportion to the key Fibonacci ratios of 23.6%, 38.2%, 50% and 61.8% (the most important retracement levels are marked by the red lines on our chart).
For more great Fibonacci strategies, check out our post here.
Pivot Points Trading Indicator
Pivot points are technical analysis tools that traders use to identify potential support and resistance levels. It is a trading indicator that can be used on all time frames, but they are particularly useful for shorter time frames where price action is more erratic and less predictable.
Pivot points are determined using the high, low, and close prices of a defined period, i.e day, week or month. In simple words, the pivot point is the average of the high, low, and close. However, we also calculate a series of support and resistance levels which are equally spaced above and below the pivot point.
These support and resistance levels help to determine how far the price could potentially move either upward or downward. This makes pivot points a very useful trading indicator.
The most common pivot point levels are taken from a daily chart. On a daily chart, the current day's pivot point is determined by the price action of the previous trading day. Based on the current day's pivot point levels, you will need to use a daily chart to get an accurate level for that day.
The pivot point trading indicator is usually the starting point from which all other technical indicators, such as Fibonacci retracements and Bollinger Bands, are calculated.
Falling Wedge Pattern
The Falling Wedge Pattern is a bullish reversal chart pattern that can be seen on any chart time frame. The pattern consists of three price points, with the first price point being the highest and the third price point being the lowest of the three price points.
As you can see, wedges can both rise and fall. However, the falling wedge pattern is typically considered bullish in that we would expect the price to break to the upside of the pattern.
To get up to speed on how to trade rising wedges or falling wedges, we’ve put together our best tips and tricks for you to study.
Stock Pattern Cheat Sheet
As you embark on your trading journey, we recommend keeping things simple to start with. There’s no better way to learn than to use a stock pattern cheat sheet.
Keep this cheat sheet handy so you pick up on key stock patterns as they play out on your charts!
50-Day Moving Average
The 50-period moving average is perhaps the most popular trading indicator. When the price crosses above a moving average, it can be used to indicate that you should enter a long (buy) position. Likewise, when the price crosses below a moving average, it can be used to indicate that you should enter a short (sell) position.
The 50-day moving average is often used by longer-term traders to see when a stock is trending. It displays the average closing price over the last 50 days or 50 periods. The 200-day moving average is the average closing price over the last 200 days.
When you take longer and shorter-term moving averages like the 50-day and the 200-day and cross them on a chart, it often represents a long-term momentum shift. Trend traders will often use these to enter and exit positions. We discuss the Golden Cross more in-depth here.