Hello and Welcome to the ditto educational series that will provide you with the skills you need to become a forex trader!
Today we will be discussing leading vs lagging indicators and some examples of what that means and encompasses. Generally new traders tend to learn to use the indicators that are based on previous price action when they are initially developing their trading plan.
Now there is nothing necessarily wrong with lagging indicators and many of them certainly have their place within our trading strategy, however there are other indicators that can serve us to see where price is likely to stop predictively, by which I mean they can help us to anticipate problems further down the road.
When Novice traders decide to begin incorporating charting into their trading, most are not really sure where to start. When traders are sifting through the plethora of information online generally people are directed to the most popular indicators such as the RSI, the macd,relative strength index or moving average convergence divergence. Generally speaking indicators that show you how markets oscillate up and down.
What These indicators all have in common is that they use the recent historical data of price candles to anticipate the immediate market prices to follow.
As for our lagging indicators, there is nothing especially wrong with looking at the most recent periods in the market to determine aspects like whether the markets could be trending or ranging.
In fact this is the often the best method to determine quickly the context for what is most likely the current state of the market.
However, when entering trades we may be more successful when we do this through price reacting to our leading indicators.
The basic function of a leading indicator is to help you see how price could unfold. Let’s now look into some of the most popular leading indicators and talk a little about them so you may come to understand their use and application. As always we want to chose the correct leading indicator for our trading style and personality so that we may better resonate with it analytically speaking.
Firstly we have Pivot points! Pivot points are excellent for forex traders and I think it’s fair to say they are one of the most objective of leading indicators. Pivot points are taken from crucial previous price points in the market and then a calculation is plotted on the chart when applied to give you three key levels.
The pivot point sits in the centre of the calculations with resistance points or profit targets for buy trades above the pivot point and support or profit targets on sell trades.
If we were to believe that any given pair is likely to move higher we could target the green resistance levels and put a stop below the lower support level that is obviously subject to our risk management rules.
Next we have Elliott Wave which is another massively popular leading indicator. Elliot wave theory is predictive and shows how the market trends and corrections may unfold.
The main aspects to the theory is that a trend is subdivided into 5 waves with each wave displaying distinct characteristics under analysis.
Elliott Wave theory is routed in one of my favourite analytical tools which is the all powerful use of Fibonacci ratios.(we have another video regarding the use of Fibonacci retracement to pinpoint entries that I advise you go watch when your done here).
A common ratio that is used to define a profit target in Elliot wave is that wave 5 often travels 61.8% of the distance covered in waves 1-3. As we know from our previous discussions on fibonacci 61.8 is one of the more prolific numbers in its sequence.
Finally we will now look at sentiment as a leading indicator. Trading with sentiment may seem odd to traders when they first start looking into it.
Mainly because the trading signal comes from analysing sentiment and taking a trade in the direction of the trend contrary to the majority of traders or investors. So in other words if we see that there is a strong uptrend but the majority of traders are short or selling the market, then we would look to enter against the majority and continue to trade in the direction of the trend.
Why exactly would we do this? The reason that sentiment is considered a leading indicator is that it is used on the premise that a trend will continue along its path, traders who are fighting or entering trades against the trend will only prolong its natural path and as they exit their trades against the trends to prevent themselves from losing more capital the trend will continue on usually in spectacular fashion.
In summary! indicators are never absolute and need to be used properly within your respective trading plan. Indicators exist to help us see glimpses of possible outcomes based on previous data and theories routed in collective data. There is no certainty that lagging or leading indicators can