With the bevy of technical analysis tools available today, I’ve seen many new techincal traders struggle to utilize them properly. While there are 1000’s of books written about this subject, there is one bit of information that I wish all new traders new about these tools.

What is an Indicator

Simply stated (in terms of technical analysis), an indicator is a mathematical formula that is applied to the price or volume of a security with the intention of predicting future price. Common examples of technical indicators are the MACD, PPO, and RSI.

Using Indicators

Indicators are best used in trending markets. In other words, the accuracy of indicators is decreased if the security you are looking at trading is moving sideways, or is highly volatile.

What is an Oscillator

Oscillators is a mathematical formula applied to an indicator, and is constrained between minimum and maximum values. Oscillators are designed to help you identify overbought or oversold conditions. When the oscillator approches the upper (maximum) value, the security is said to be overbought, and conversely, when the oscillator approaches the lower (minimum) value, the secuirty is said to be oversold.

Using Oscillators

Oscillators are best used in non-tranding markets; IE, the security is highly volatile and / or is trading with a sideways price action.

Further Reading

My inspiration to write this article came from a post written by Dr. Berry Burns about creating objective trading plans. In the article, he makes a very bold (yet quite true) statement that single indicators and oscillators simply do not work. They have to be combined intelligently to measure the different aspects of price action which he terms “energies.”

If you wish to read the article, here is a link:

http://club.ino.com/trading/2008/09/how-to-create-an-objective-trading-plan/

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