While there are hundreds of technical indicators available, many
of them give the same signals, and using several that are similar
adds little value to your analysis process.
The wide variety of indicators may disguise the reality that
most indicators simply apply different mathematical techniques to
closing prices in their calculation. For example, therelative
strength index (RSI) andstochastics will usually give buy and sell
signals at about the same time. To avoid the problem of duplicating
signals, traders should know exactly want they want to learn from
each indicator on a chart.
Below is a daily chart of
PowerShares QQQETF (Nasdaq: QQQ)
. The prices are shown withBollinger Bands . Stochastics andRSI are
shown in the lower part of the chart.
Prices seem to have turned down after nearing the upper
Bollinger Band. This could indicate that the next move in QQQ will
be down with the initialprice target being $61.70, the lower
Bollinger Band. Thestochastics indicator confirms thebearish
outlook and gave a sell signal while it was in overbought
territory. RSI is included on the chart to help determine the
direction of the trend, and this indicator is also bearish.
RSI is a widely misused indicator. Some traders look for
overbought and oversold signals from the indicator while others use
pattern analysis and trendline breaks to generate signals. These
rules work sometimes, but generallyoffer signals that are more
difficult to interpret than the stochastics indicator, which gives
very clear buy and sell signals. Instead of looking at RSI as an
overbought/oversold indicator, traders might find it more useful to
look at RSI as a trend identification tool.
Range rules can be applied to RSI to confirm the direction of
the trend. These rules recognize that RSI usually stays within a
range when prices are trending. When prices are in an uptrend, RSI
will tend to bottom near 40 and top at about 80. In a downtrend,
RSI usually tops near 60 and finds a bottom near 20.
On the chart of QQQ, the RSI range from 20 to 60 has been
highlighted as a blue rectangle. In the most recentmarket action,
RSI turned down after reaching a level of 58, a sign that QQQ is
set for a fall.
Bollinger Bands, stochastics and RSI are independently
confirming bearishness for QQQ, suggesting a short trade.
Ultimately, though, we trade price, which is shown in the next
Fibonacciretracement levels have been added to the chart. The
50% retracement level offered resistance and has at least
temporarily stopped the advance off the November low. Aggressive
traders could short the market now given that the indicators point
to a decline in a price. Conservative traders could wait for a move
below the 38.2% retracement level and short on a close under $65.
In either case, a close above $67 (the 61.8% retracement level)
would indicate that prices are moving higher and short trades
should be closed.
A successful trading strategy should use several independent
indicators and include both a price target and a stop-loss level.
The charts shown above demonstrate one way to trade that idea.
Traders could use different indicators, but it is important to
understand what your indicators are saying and follow them with
Action to Take -->
Short QQQ at $65 or less. Set stop-loss at $67, about
3.5% above the recent price. Set initial price target at
$61.70 for a potential 5% gain in one to three months. If you
are not comfortable shorting, you can use the
ProShares Short QQQ (
, an inversefund that goes up in price when theindex falls,
Buy PSQ at themarket price . Set stop-loss at
$24.80. Set price target at $26.90 for a potential 4% gain in
This article originally appeared on TradingAuthority.com:
Multiple Technical Indicators Point to Danger in
the Stock Market
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