INTRODUCTION TO TRADING INDICATORS CONT’D

Ok guys…

From the last slide, we stopped at MACD…

Here is the continuation from our Table of content

Table of Content
➢ Moving Average (MA) – SMA and EMA
➢ Stochastic Oscillator
➢ Moving Average Convergence Divergence (MACD)
➢ Bollinger Bands
➢ Relative Strength Index (RSI)
➢ Fibonacci retracement

Bollinger bands
A Bollinger band is an indicator that provides a range within which the price of an asset
typically trades.

This type of indicator usually has to do with overbought and oversold. Like RSI and
Stochastic Oscillator.
Want to ask what is RSI...Relax
We are going to cover RSI topic soon.
Now let’s get back to understanding Bollinger Band better…
Bollinger bands are useful for recognizing when an asset is trading outside of its usual
levels, and are used mostly as a method to predict long-term price movements.
When a price continually moves outside the upper parameters of the band, it could be
overbought, and when it moves below the lower band, it could be oversold.
They consist of three lines which are most commonly (not exclusively) overlaid on a
securities price. The middle line of the Bollinger Bands indicator, is a moving average
(usually) of the price (default is a 20-period moving average). The upper Bollinger Band
is derived from a standard deviation calculation of the price added to the moving average
value. The lower Bollinger Band is derived from a standard deviation calculation of the
price subtracted from the moving average value.
The width of the band increases and decreases to reflect recent volatility. The closer the
bands are to each other – or the ‘narrower’ they are – the lower the perceived volatility
of the financial instrument. The wider the bands, the higher the perceived volatility.

Breakouts, the Bollinger Band squeeze

As discussed earlier, Bollinger Bands help identify periods of low volatility indicative of
consolidatory market environments. Breakout traders will often look for these periods of
consolidation and wait for the next trading opportunity to emerge from the consolidation.
Whilst the Bollinger Bands are narrowed, the upper band may be considered a point of
resistance and the lower band a level of support. Should the price break above the resistance
or below the support of these bands, it may be considered a trading opportunity for breakout
traders.
At this stage the market could be transitioning from a consolidation into a new price trend.
Breakout traders might use this as an entry opportunity for trading with this new trend. A
break of key support or resistance lines are often used in conjunction with the Bollinger
Band break, as confirmation signals before entering into the trade. It is also considered
preferential to see a sharp widening of the Bollinger Bands before entering into the trade.
The widening of the Bollinger Bands is further suggestion that the price is now moving out
of a consolidation in into a new directional trend.

Bollinger Bands are not generally considered to provide target levels for trades, although
exit signals are sometimes considered when the bands stop widening or start to narrow
once again.
The described Bollinger Breakout strategy is often referred to as the 'Bollinger Squeeze',
as the bands (in their narrowed form) look to squeeze the price before a breakout transpires.
Bollinger Bands for trend reversals

In addition to break out trading, Bollinger Bands are often used to help identify price trend
reversals in the form of double tops ('M') and double bottoms ('W'). The use of Bollinger
Bands for 'M' and 'W' signals looks to provide earlier indications than those produced from
conventional 'M' and 'W' chart patterns.
The 'M' reversal in Bollinger theory identifies two major price highs (significant turning
points) after an uptrend. The first major high is noted as having broken the upper Bollinger
Band, while the second successive high falls short of the upper Bollinger Band. The fact
that the second price high does not break through the upper band, is a suggestion that the
momentum in price is now weaker (than the move to the previous price high) on a relative
basis. This may be interpreted as a type of overbought signal, suggesting that the trend up
may have reached a short-term maturity and possibly setting up to reverse course. Traders
who are long in the market might consider this as a signal to bank profits or exit the trade.
Traders who look to trade trend reversal patterns, may wait for a trend line break or other
technical indications for a confirmation signal before entering short into the market being
evaluated.
The 'W' reversal in Bollinger theory identifies two major price lows (significant turning
points) after a downtrend. The first major low is noted as having broken the lower Bollinger
Band, while the second successive low falls short of the lower Bollinger Band. The fact
that the second price low does not break through the lower band, is a suggestion that the
downward momentum in price is now weaker (than the move to the previous price low) on
a relative basis. This may be interpreted as a type of oversold signal, suggesting that the
trend down may have reached a short-term maturity and possibly setting up to reverse
course. Traders who are short in the market might consider this as a signal to bank profits
or exit the trade. Traders who look to trade trend reversal patterns, may wait for a trend
line break or other technical indications for a confirmation signal before entering long into
the market being evaluated.

Relative strength index (RSI)

Ever heard of RSI and wondered what on earth it’s used…
Then relax….
We are going to break it down for you in its simplest form
Now let’s get to work…
RSI is mostly used to help traders identify momentum, market conditions and warning
signals for dangerous price movements. RSI is expressed as a figure between 0 and 100.
An asset around the 70 level is often considered overbought, while an asset at or near 30
is often considered oversold.
An overbought signal suggests that short-term gains may be reaching a point of maturity
and assets may be in for a price correction. In contrast, an oversold signal could mean that
short-term declines are reaching maturity and assets may be in for a rally.

How is the RSI calculated?

The RSI indicator value is calculated using the following formula:

RSI = 100 – 100 / (1 + RS)

Where RS is the average gains over x periods / average losses over x periods

Essentially the RSI is a calculation of the profitable price closes relative to unprofitable
price closes, reflected as a percentage.

Did you think about the term momentum?

Are you confused and want to know what it’s for?

What is a momentum indicator?

Momentum indicators are generally considered to be technical tools to measure the speed
or velocity of market price movements. Essentially, they are a gauge of a shorter-term trend
of a security and give us indications of the suggested health and sustainability of these
shorter-term movements by generating what is known as 'overbought' and 'oversold'
signals.

Overbought signal?
As alluded to earlier, the RSI indicator is expressed as a value between 0 and 100. When
the indicator reading approaches the upper end of this range ie above 70, the security in
question is said to be 'overbought'.

An overbought signal is the suggestion that the short-term gains in a particular market may
be reaching a point of maturity (for the time being) ie the rally that took the price higher
may be nearing a short-term end and possibly readying for a near-term decline.
Oversold signal?
When the RSI indicator value approaches the lower end of the 0 to 100 range ie below 30,
the security in question is said to be 'oversold'.

An oversold signal is the suggestion that the short-term declines in a particular market may
be reaching a point of maturity (for the time being) ie the decline which took the price
lower may be nearing a short-term end and possibly readying for a near-term rebound to
follow.

Now you have understood it a bit…

But you are confused on how to trade the overbought and oversold signals once
identified...

Here’s how

For Overbought…

An overbought signal with the RSI is considered when the indicator crosses back below
the 70 level. Traders might consider using these signals one of two ways.

• A trader who is long might consider using the overbought signal as a signal to lock
in profit and exit the trade he/she may already be in. Trading long is trading with
 the view that the market in question will rise and in this circumstance the trader
will look to exit that position with a sell.
• A trader who has no open positions might consider using the overbought signal as
a signal to enter a new trade 'short'. A short position is trading with the view that
the market in question will fall.

Alternatively
For Oversold…
An oversold signal with the RSI is considered when the indicator crosses back above the
30 level. Traders might consider using these signals one of two ways.

• A trader who has no open positions might consider using the oversold signal as a
signal to enter a new trade 'long', thereby entering the market with a buy as the
expectation is that the price will rise in the near term.

• A trader who has already sold short in the market may consider using the oversold
signal as a signal to lock in profit (if the price has fallen) and exit the trade with a
buy
Now I bet you fully understood the 70 overbought and 30 oversold and can determine when
to buy/long or short/sell any coin once spotted.
I also want to emphasize on divergence… Remember the meaning from MACD?
Now let’s know its role in RSI

What is RSI divergence?

A divergence signal with the RSI is considered when the highs or lows of the market price
are moving in different directions to the highs or lows on the RSI indicator.

Positive/bullish RSI divergence

For a positive divergence we look at the lows of both the price and the indicator. If the
price is making higher lows, and the indicator is making lower lows, a positive or bullish
divergence signal is considered. It is preferable to witness this occurrence when the RSI is
in oversold territory.

A positive or bullish divergence suggests short-term gains in the securities price to follow.
A positive divergence signal in conjunction with an oversold signal is considered by many
market technicians to be a more powerful 'buy' signal than an oversold signal in isolation.

Look at the image below

Negative/bearish RSI divergence
For a negative divergence we look at the highs of both the price and the indicator. If the
price is making higher highs, and the indicator is making lower highs, a negative or bearish
divergence signal is considered. It is preferable to witness this occurrence when the RSI is
in overbought territory.

A negative or bearish divergence suggests a short-term decline in the securities price to

follow. A negative divergence signal in conjunction with an overbought signal is
considered by many market technicians to be a more powerful 'sell' signal than just an
overbought signal in isolation.
Ok…I think you a bit confused with the High Low of a thing
Might want to ask questions on that?
The topic will be covered when we are introduced to Chart Patterns…
So I urge us all to relax and focus on RSI for now
Now we have understood the overall concept of this indicator, I would quickly rush us to
its trading strategy

What is the best RSI trading strategy?

The RSI is a range bound indicator, moving between 0 and 100. In turn trading both long
and short signals using this indicator is considered best when the price in range bound in
nature as well.

Markets do however frequently move in trends. When considering a market that is trending,
it is often considered best practice to trade RSI signals that align with the trend for entry
and signals against the trend for exits (not as signals to open new positions against the
trend).

The below example shows a market that is in an uptrend. Where oversold signals are used
to enter long into the market. The overbought signal is used to exit the trade, not open up
a new short entry.
The below example shows a market that is in a downtrend. Here overbought signals are
used to enter short positions into the market. The oversold signal is used to exit the trade,
not open up a new long entry.

Now you might be thinking the actual difference between RSI and Stochastic Oscillator?

Are they not the same…

Let’s get it straight

The RSI and stochastic are both oscillators in technical analysis terms. While similar in
nature, the mathematical formula used to create each indicator differs. Where the RSI is
calculating the average gain vs average loss over x periods, the stochastic is calculating the
closing price relative to the x period highest high and lowest low.

Where an overbought and oversold reading is considered at levels 70 and 30 for an RSI
respectively, the overbought and oversold signals are considered at levels 80 and 20 for the
stochastic respectively.

The signals produced by both indicators are similar although not exactly the same. Some
traders like to add both indicators to their analysis and wait for signal to align for extra
confirmation before making their trading decisions. Other traders may prefer to use one
indicator or the other to avoid duplication in their analysis.