Saturday, March 10, 2018

Technical Indicators: The Good, the Bad and the Ugly

It is a bit overwhelming when being first introduced to technical analysis. It can be quite confusing, as a lot of jargon is thrown around. As the months go by, I find my self focusing less and less on technical indicators (chart patterns are much more useful, and I don't mean patterns like Head and Shoulders patterns). I find the indicators out there to not be that effective, since they are so overused as trading robots to the numerous retail investors use them, and that takes the edge away.

My Thoughts on Indicators:
Early in my trading career, I followed Tom McClellan and he has always emphasized not to use the same tools everyone else does, as it takes away the edge. I have always taken that as motivation to find new/unique ways of interpreting indicators. For example, with the RSI, I don't look at it to tell me whether a stock is overbought or oversold, there is so much to the indicator, that many don't discuss (or maybe notice). In fact, I find trying to use it to tell if a stock is overbought or oversold is inaccurate and hard to profit from it signal. Ever notice that when a stock is more overbought, it just keeps getting more and more overbought? That's not a very useful way way to exit/short a stock However, I rather keep the ways I read them to my self to, and maintain my edge. The point is, try to think outside the box, even when looking at other indicators, don't just go with the way everyone else reads them.

My Top 2 Indicators:
My top 2 favorite indicators are RSI, Bollinger Bands. RSI is a very accurate way to represent price without all the noise. Basically it measures how the speed and change of price movement, you can read more about it here.

My favorite indicator are Bollinger Bands. From wikipedia:

Bollinger Bands consist of:
an N-period moving average (MA)
an upper band at K times an N-period standard deviation above the moving average (MA + Kσ)
a lower band at K times an N-period standard deviation below the moving average (MA − Kσ)

In short, it gives a range of what is statistically possible in terms of price. So 95% of the time, price of a stock should be inside the bands. Therefore, being outside the upper or lower band is one of the most reliable ways you can tell a stock is overbought or oversold. However, this isn't always the case, especially during an earnings movement or surprise news event surrounding the stock. As an example the chart below is AAPL and is Bollinger Bands. Note how often the Bands acted areas where price would bounce from! But not always!

There are plenty of video tutorials on interesting strategies on how to use Bollinger Bands, here is one example:

Videos like the one above will hopefully help you think outside the box and to create/maintain an edge!

I wrote this blog post, to inspire people to really focus on Bollinger Bands and RSI, and to try to find new, innovative ways to use them compared to the current crowd. Remember, you don't need to use my favorite ones, try to find new ways to use your favorite indicators.