My Account

English

Not a Member? Sign up Now!

TRADING ACCOUNTS

TRADING PLATFORMS

TRADING PRODUCTS

PROMOTIONS

NEWS

EDUCATION

ABOUT US

Education

Introduction to Trading

Trading Hours

Currency Pair Trading

Technical Analysis

Introduction
Charts
Technical Indicators
Support and Resistance
Continuation Patterns
Mathematical Indicators
Fibonacci and Elliot Wave

Fundamental Analysis

Glossary

Trading Sessions

Webinars

Mathematical Trading Indicators

Very popular amongst traders are mathematical trading indicator methods used to give an objective viewpoint of price movement. The study of trading indicators will aid greatly in building up an informed opinion on price timing and direction; it will also give strong signals about the movements in price before they happen, and will therefore make trading more efficient as it reduces fear and helps prevent overtrading.

When discussing the mathematical techniques used in trading, there are two tools used:

Moving Averages – Very commonly used indicator displaying the average value of an asset’s price over a set period of time. The moving average is a great way of visualizing the trends within a market.

Oscillators - A tool for technical analysis that is bound between two extreme values. It provides clear signals should a currency be oversold and overbought. Once the value of the oscillator reaches the upper extreme value, the security is considered to be over purchased. Conversely, once it reaches the lower extreme, it is considered to be oversold.

Moving Averages

Moving averages are commonly used in the context of support and resistance. If the price is higher than the moving average level, then that specific moving average level is deemed to be support. If the price is lower than its moving average, then that moving average level is deemed to be resistance.

There are many different forms of MA’s; some more complex and detailed than others. Here are some of the most popular and effective moving average tools:

Simple Moving Average (SMA)

This mathematic mean of price data is formulated by adding the closing price of an asset for a number of time periods and dividing the total by the amount of time periods. It is a smoothing tool that displays the basic trend of the market.

Example: Add the closing price on an asset for the latest 20 days, divide that by 20 and you will have the moving average for 20 days.

Often it is the closing price at the end of the day that is used to formulate SMA’s, but the average can also be formulated using the mid range level or an average of the low, high and prices closing in a daily average.

The Simple Moving Average is considered by many to be part of the greatest and most popular methods to ascertain the strength of a trend in the long term and the probability that it’ll reverse itself. If a MA is ascending with the price rising over it, the asset is considered to be in an uptrend, whilst a moving average descending with a lower price is used to identify a downtrend.

One of the biggest drawbacks of the Simple Moving Average is that it’s a follower as opposed to a leader. The signals generated happen after the movement has already begun and there is the possibility that you could enter a particular trade late and even too late. One negative aspect of the simple moving average is that it gives equal importance and weight to every interval; whilst there are a lot of analysts who think that the latest price action should be afforded greater weight in the chart.

Exponential Moving Average (EMA)

The Exponential Moving Average is a form of moving average which is very similar to a SMA. The main difference being in answer to some of the principle criticisms of the SMA, the EMA gives greater weight to the most recent data. The actual applied weighting to the current price is dependent upon the length of the moving average’s time period. The smaller the Exponential Moving Average, the greater weight would be given to the latest price. This will reduce any potential lag.

The Exponential Moving Average can be defined in two forms: percentage based and period based. The percentage based EMA determines the most recent period’s price whilst the period based EMA determines the EMA time period and the weight of all the periods is worked out by formula. Out of the two EMAs the most commonly used is the period based EMA, primarily due to the ‘bigger picture’ this gives.

SMA vs EMA

The EMA gives much more weight and gravitas to the latest price data, regarded as the most important data on account of its freshness. This allows the trader using the technical analysis to respond quicker to the most recent changes in price.

When calculating the EMA, all prior price data is taken into consideration and used in its formulation. However, whilst the effect and relevance of the older data reduces as time progresses, it is always there and never completely goes away. The relevance and effects of less recent information reduce quickly for shorter EMA’s as opposed for longer EMA’s, however, once more, they never fully disappear.

Moving Average Convergence-Divergence (MACD)

The MACD is a popular tool in technical analysis used to ascertain moving trends. It is determined by subtracting the EMA from a lesser EMA. Both twelve day and twenty-six day EMA’s are normally used. Calculated on the differential, a MA of 9 time periods is formulated. This is called a Signal Line.

MACD = (12 day MA – 26 day MA) > Exponential Weighted Indicator

Signal Line = (MACD) > Average Weighted Indicator

Because of the exponential smoothing, it is possible to see that the MACD will be faster to follow the latest changes in price than can be found in the signal line.

Once the MACD passes the signal line; the quicker MA (twelve day) is greater than the change rate for the less quick MA (twenty-six day). This is considered Bullish, expecting the price to ascend. On the other side of the coin, where the Moving Average Convergence-Divergence is lower than the signal line, it is considered a signal that is Bearish, making a possible prediction of a reversal in the not too distant future.

Bollinger Bands

Formulated by John Bollinger at the onset of the 1980’s; these are employed to determine extreme highs and lows in a price. This was in response to a need indentified by Bollinger for adaptable trading bands where the spacing interval differs centered on the price volatility.

In highly volatile periods, Bollinger bands widen, giving more flexibility to the prices whilst in periods of reduced instability, they taper to tighten and contain prices

Bollinger Bands comprise of a range of 3 curves drawn relative to prices, establishing a bandwidth, a relative measure of the width of the bands on the chart and a measure of where the most recent price in respect to the bands.

The middle of the three bands represents the trend in the intermediate term. This is normally served by the twenty day SMA (simple moving average)

The upper of the bands is similar to the central band, however it is moved up by 2 regular deviations. This is a calculation that reflects the volatility and where the price differs from its intrinsic worth.

The lower of the bands is similar to the middle band, only moved down by 2 regular deviations to allow for the volatility of the market.

LOWER BOLLINGER BAND = SMA – 2 regular deviations

MIDDLE BOLLINGER BAND = 20 DAY – SMA

UPPER BOLLINGER BRAND = SMA + 2 regular deviations

When making an interpretation of the Bollinger bands on a chart it is important to know that the likelihood of a quick price breakout is accelerated when there is a narrowing of the bandwidth. In a situation where prices constantly reach the upper of the Bollinger bands, a sell signal is triggered as the prices and considered to be overbought. Conversely when the band that is lower is constantly being touched; a buy signal is triggered as prices are considered as oversold.

RSI – Relative Strength Index

Developed by J. Welles Wilder, the RSI is a system that gives actual buy and signal signals in a fluctuating market. It is founded on the variance between the averages of the price at closing on days when the price rises vs. the average price at closing on the days the price went down. This is observed overt a 14 day period and the information converted into a value ranging from 0 to 100.

Where the average increase is higher than the average loss, the Relative Strength Index increases and where the average loss is higher than the average increase, the Relative Strength Index declines.

The RSI is normally used to provide confirmation of a trend already in existence. When the RSI is over 50 an uptrend is identified, when that figure is below 50 then it is a downtrend. The RSI also signals scenarios where the market is oversold or overbought, achieved by monitoring the particular levels (normally “30 and “70”) that notify of impending reversals.

Where the RSI is above 70 an overbought scenario is present which means there are nearly no buyers remaining in the market, thus there are more chances that prices will decrease because those who purchased previously now cash in by selling and taking their profit.

SAR – The Parabolic System, Stop-and-Reverse

This is another system that was developed by J Welles Wilder that formulates trailing stop losses within a market that is trending. The charting of the points tracks the movements in price by way of a line of dots, which normally follows a parabolic (conical) path.

If the parabola tracks lower than the price, a buy signal is generated. Conversely, once the parabola goes higher than the price, there is a suggestion to sell or go short. On the chart the dots of the stop losses set the trailing stop-loss levels needed for the position. Within an upward trend, called Bullish, a position that is long should be taken alongside a trailing stop which will increase each day awaiting triggering price dropping to the stop level. Within a downward trend, called Bearish a position that is short can be taken alongside a trailing stop which would fall each day until triggering the price increasing to the stop level.

This kind of system is believed to work at its best throughout periods of trending. It aids investors identify and jump onto new trends early on. Should the recent trend not be successful, the conical form on the chart changes a part of the price to the other part, producing the stop and reversal signals. This gives great indication to a trader if they should open or close the trading position or open a reverse position when the change happens.

HIGH RISK INVESTMENT WARNING: Trading Foreign Exchange (Forex) and Contracts for Differences (CFD's) is highly speculative, carries a high level of risk and may not be suitable for all investors. You may sustain a loss of some or all of your invested capital, therefore, you should not speculate with capital that you cannot afford to lose. You should be aware of all the risks associated with trading on margin. Please click here to read full risk warning. ECMarkets.com is a trading name of Safecap Investments Ltd, a Financial Services Company authorized and regulated by the Cyprus Securities Exchange Commission (CySEC) under license no. 092/08. Safecap Investments Ltd Is located at Treppides Tower, 6th Floor Kafkasou 9, Aglantzia P.O.Box 26522 CY2112, Nicosia, Cyprus.